PROVISIONS FOR DOUBTFUL DEBTS

A provision for doubtful debt is an estimate of the amount the business will loose in a financial year
because of irrecoverable debts.
This is an application of the Prudence principle and Matching principle.
Prudence Principle – Profit is not overstated as the provision is treated as an expense and trade
receivables are not overstated as the provision is subtracted from them.
Matching Principle- The amount of sales for which the business is unlikely to be paid is regarded as an
expense in the year in which those sales are made.
The amount of the provision may be estimated by
a. Looking at each individual credit customer account and estimate which ones will not be paid.
b. Estimating on the basis of past experiences, the percentage of the total amount owing by
customers that will not be paid.
c. Considering the time the debt has been owing by means of an ageing schedule. A provision of
a higher percentage may be made on older debts.

Accounting entries for Provision for doubtful debts

The Provision for doubtful debts account has a credit balance.
The entries are made at the end of the year as follows:

1. On creation of a provision for doubtful debts

Dr – Income statement
Cr- Provision for doubtful debts
In the SOFP subtract the balance on the Provision for doubtful debts account from trade
receivables.
2. Adjusting a Provision for doubtful debts
If the account is maintained in future, we only account for either the increase or the
decrease only (in the Income Statement).
In the SOFP we subtract the new provision from trade receivables.

For an increase in the Provision the accounting entries are:

Dr – Income statement (with the increase)

Cr – Provision for doubtful debts account (with the increase) to increase the balance.

For a decrease in the provision the accounting entries are:

Dr -Provision for doubtful debts account (with the decrease) to reduce the balance.
Cr – Income statement (with the decrease).