Financial Accounting

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Previous Lessons
Open Chapter Ch. 1: Basics of Financial Accounting
Lesson #1 Introduction to Financial Accounting
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Lesson #2 Structures of a Business
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Lesson #3 Comparing Internal vs. External Users
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Lesson #4 Business Activities
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Lesson #5 Financial Statements
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Lesson #6 Elements of Financial Accounting
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Open Chapter Ch. 2: Assets, Liability, and Equity
Lesson #7 Assets
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Lesson #8 Liabilities
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Lesson #9 Equity
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Open Chapter Ch. 3: The Double-Entry System and Conceptual Framework
Lesson #10 Accounting Equation
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Lesson #11 Conceptual Framework
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Lesson #12 Double Entry Accounting System
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Lesson #13 Debits and Credits
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Lesson #14 Normal Balances and RED Accounts
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Exam Exam 1
Open Chapter Ch. 4: The Accounting Cycle
Lesson #15 Journalizing and the Accounting Cycle
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Lesson #16 Posting to the General Ledger
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Lesson #17 Trial Balance
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Lesson #18 Adjusting Entries for Accrued Expenses
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Lesson #19 Adjusting Entries for Prepaid Expenses
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Lesson #20 Adjusting Entries for Unearned Revenue
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Lesson #21 Adjusting Entries for Accrued Revenue
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Lesson #22 Adjusting Entries for Amortization and Depreciation
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Lesson #23 Adjusted Trial Balance
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Lesson #24 Preparing the Financial Statements
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Lesson #25 Permanent vs. Temporary Accounts
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Lesson #26 Closing Entries
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Open Chapter Ch. 5: Merchandise Inventory
Lesson #27 Introduction to Merchandise Inventory
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Lesson #28 Periodic vs. Perpetual Inventory Systems
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Lesson #29 Journalizing Purchase Entries
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Lesson #30 Journalizing Sales Transactions
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Lesson #31 Preparing a Multiple-Step Income Statement
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Lesson #32 Periodic Inventory System Purchases
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Lesson #33 Periodic System and the Multiple-Step Accounting System
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Exam Midterm Exam
Open Chapter Ch. 6: Cost Flow Assumptions: FIFO, LIFO, and Average Cost Methods
Lesson #34 Specific Identification Method and Inventory Costing
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Lesson #35 FIFO Method and Inventory Costing
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Lesson #36 Average Cost Method and Inventory Costing
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Lesson #37 The LIFO Method
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Lesson #38 Average Cost Method for the Perpetual System
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Lesson #39 Comparing Inventory Costing Methods
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Open Chapter Ch. 7: Receivables and Bad Debts
Lesson #40 Allowance Method and Uncollectibles
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Lesson #41 The Allowance Method
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Lesson #42 Percentage of Sales Method
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Lesson #43 Percentage of Receivables Method
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Lesson #44 Receivables Method and the Aging Table
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Lesson #45 Write Off Receivables Using the Allowance Method
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Lesson #46 Direct Write-Off Method
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Open Chapter Ch. 8: Revenue Recognition
Lesson #47 Revenue Recognition
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Lesson #48 Revenue Recognition Examples
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Lesson #49 Revenue Recognition and Long Term Contracts
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Lesson #50 Percentage of Completion Method
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Lesson #51 Percentage of Completion Method Journal Entries
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Lesson #52 Percentage of Completion Method and Journalizing Losses
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Lesson #53 Cost Recovery Method
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Lesson #54 Completed Contract Method and Journal Entries
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Lesson #55 Completed Contract Method and Losses
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Exam Exam 3
Open Chapter Ch. 9: Depreciation of Fixed Assets and Gains and Losses
Lesson #56 Depreciation, Amortization and Depletion
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Lesson #57 Straight Line and Declining Balance Methods
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Lesson #58 Straight Line and Double Declining Balance Depreciation Examples
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Lesson #59 Gains and Losses on Disposals of Property, Plant & Equipment
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Open Chapter Ch. 10: Intangible Assets
Lesson #60 Intangible Assets
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Lesson #61 Amortizing Intangible Assets
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Lesson #62 Impairment of Intangible Assets
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Lesson #63 Recording Goodwill, Amortization and Impairment
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Open Chapter Ch. 11: The Indirect Cash Flow Statement
Lesson #64 Preparing a Cash Flow Statement Using the Indirect Method Part 1
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Lesson #65 Cash Flow Statement Using Indirect Method Part 2, Receivables
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Lesson #66 Cash Flow Statement Using Indirect Method Part 3, Inventory
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Lesson #67 Cash Flow Statement Using Indirect Method Part 4, Payables
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Lesson #68 Cash Flow Statement Using Indirect Method Part 5, Non Cash Expenses
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Lesson #69 Cash Flow Statement- Investing and Financing Activities
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Exam Final Exam

Assignments:

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Lesson Objectives:

- Defining the percentage of receivables method.
- What the aging schedule is.
- Using the T-account format to record the beginning, adjustment and ending values.
- Recording the bad debts expense.



In this lesson we will be talking about the percentage of receivables method for calculating the bad debts expense. The receivables method is slightly more complicated than the sales method that we reviewed in the previous lesson.
 
The difference is the receivables method does not use the net sales to calculate the uncollectible amount. Instead we will use the permanent account values for accounts receivable.
 
For the example, we are reviewing in this lesson, we will use the following values for receivables. We will also assume that the uncollectible amount will account for 1 percent of the receivables.
 
End 2014 receivables = 700,000
 
End 2015 receivables = 1,300,000
 
We will use the same format for the bad debts journal entry that we reviewed when talking about the sales method. The bad debts are listed as a debit and the contra asset account of AFDA as a credit. Hopefully you remember from the previous lesson that AFDA stands for allowance for doubtful accounts.



Normally, when talking about the receivables, we use the aging schedule to address receivables that have been outstanding for a certain amount of time (30 days, 3 months, 6 months and so on). The longer amount of time that the receivable has been outstanding, the less likely that it will be collected.

Let's forget about this concept for now, as I want to keep the receivables method as simple as possible. We will be revisiting this topic in the next lesson, so moving forward let's go ahead and take a look at the T-account for AFDA.



In order to come up with the adjustment entry for the bad debts expense, let's use the T-account format. We are looking for the adjustment value so we will need to find the beginning and ending amounts.
 
First, we will multiply the 2014 end receivables of $700,000 by the 1 percent uncollectible amount to come up with the beginning balance of $7,000. The ending balance will be calculated the same way using the 2015 end receivables multiplied by 1 percent or 0.01 to conclude with $13,000.
 
Now we just need to calculate the adjustment amount by subtracting the $7,000 beginning balance from the ending balance of $13,000 to come up with a $6,000 adjustment amount.

The difference between the ending and beginning amount is the adjustment value that we will be using to record the journal entry for the bad debts expense.



We have the $6,000 adjustment value that was calculated by finding the difference between the 2015 uncollectible end receivables and 2014 uncollectible end receivables. Now let's use the same journal entry format, to record the $6,000 as a debit to the bad debts expense account and a credit to the AFDA account.

Accounts receivable is a permanent account that is used in the receivables method, therefore the ending balance is calculated by multiplying the uncollectible percentage by the ending receivables. With this method, we are looking for the adjustment amount.
 
The sales method uses net sales to calculate the adjustment amount. Net sales is a temporary account that will be reset to zero at the end of every year, it is ultimately closed and transferred to a permanent account. In contrast to the receivables method, the sales method looks for the ending amount.
 
Keep in mind when we are needing to record the bad debts expense, we are always using the adjustment value and not the beginning or ending values.



Again, each bad debt expense method has its own benefits. We mentioned that the advantage of the sales method follows the matching principle to match the bad debt expense to the revenue earned in that particular accounting period.
 
The receivables method is not necessarily a good representation of the matching principle, but it gives a clear net realizable value of accounts receivable. This is simply the accounts receivable account less the AFDA amount.