Companies can induce higher sales revenue by offering customers a short time period to pay for goods and services. This creates accounts receivable, an asset that indicates a company expects to receive cash in an upcoming time period. Though sound in principle, not every customer will pay the money owed to a company. This failure to pay accounts receivable leads companies to declare the expected uncollectible accounts receivable. A common method is the percent of credit sales that determines total uncollectible accounts.
Review the previous year’s general ledger.
Calculate the total credit sales by adding up all sales involving accounts receivable.
Look at the final income statement from the previous year to determine the amount of bad debts expense. This is the total accounts receivables written off as uncollectible.
Divide the total bad debts expense by total credit sales. This percentage is the expected bad debts expense for upcoming periods. For example, if total bad debts was $1,000 and total credit sales was $10,000, then the expected bad debts is 10 percent, since $1,000 / $10,000 = .10 = 10 percent (multiply be 100 to get a percentage).
Multiply current credit sales from the percentage in Step 4 to estimate current uncollectible accounts receivable. If current credit sales is $15,000, then the estimated uncollectible accounts receivable is $1,500, since $15,000 * .10 = $1,500.
- "Fundamental Financial Accounting Concepts"; Thomas P. Edmonds, et al.; 2011