2.

Recording credit sales

a. The recording of accounts receivable is closely
NORTHEASTERN COLLEGE related to the revenue recognition principle.
Santiago City, Philippines b. In theory, the receivable should be recorded at
the point when the title passes.
UPDATES IN FINANCIAL c. In practice, the receivable is usually recorded
when the merchandise is shipped.
REPORTING STANDARDS d. Trade discount- An amount deducted from the list
Jimmy I. Peru, JD,MBM,MICB,CPA price to get the invoice price of the merchandise.
(1) A convenient technique for making price
changes without reprinting catalogs or
RECEIVABLES providing differential discounts based on
types of customer or quantity purchased.
A. Loans and Receivables (2) Not recorded in the books of accounts.
1. PAS 39: Loans and receivables are nonderivative e. Cash discount- A reduction from invoice price to
financial assets with fixed or determinable payments induce prompt payment.
that are not quoted in an active market. (1) Referred to as a sales discount by the seller
2. Examples: Accounts receivable, notes receivables and and a purchase discount by the buyer.
loans receivables (2) Usually expressed in the form “2/10, net 30,”
meaning a 2% discount if paid within 10
B. General days, and if not, the totals is due in 30 days.
1. Receivables- Claims against others for money, goods f. Net method versus gross method of accounting for
or services. cash discounts.
2. Receivables- are financial assets that represent a (1) The net method is preferable in theory.
contractual right to receive cash or another financial (a) The receivable is recorded at the cash
asset from another entity. equivalent price on the date of sale.
3. Current receivables are those which are expected to be (b) If the customer does not take the
collected within the next year or operating cycle, discount, the seller records a Sales
whichever is longer. Discount Not Taken, classified as other
4. Noncurrent receivables should generally be shown in income.
the Investments or Other Noncurrent section of the (2) In practice, most companies use the gross
statement of financial position. method.
5. Accounting for receivables is affected by the amount, (a) The receivable is recorded at the gross
timing and uncertainty associated with their collection. amount.
6. Trade and nontrade receivables (PAS 1, Presentation (b) If the customer pays within the discount
of FS, pa. 66) period, the seller records a Sales
a. Trade receivables result from sales to customers. Discount.
b. All other receivables are nontrade. (c) Sales discounts are deducted from sales
7. Accounts and notes receivable to get net sales.
a. An account receivable is an open account (d) Advantages: Practical and convenient.
involving a nonwritten promise to pay. (e) Disadvantages: Tends to overstate the
b. A note receivable involves a written promise to receivable and revenue, but an adjusting
pay. entry to create an allowance can be used
to compensate for this.
C. Measurement of Receivables
1. Initial measurement: PAS 39, pa. 43, provides that 3. Accounting for uncollectible accounts.
when a financial asset is recognized initially, an entity a. When an account becomes uncollectible, the
shall measure it at fair value plus transaction costs company incurs a bad-debt loss.
that are directly attributable to the acquisition. b. Bad debts are a cost of doing business on credit.
2. Fair value: transaction price or original exchange c. Direct write-off method.
price (1) When an account is determined to be
3. Fair values of the following: uncollectible, debit Bad Debt Expense and
a. Short-term receivables – face value credit Accounts Receivable.
b. Long-term receivables interest bearing – face (2) Advantage: It is simple.
value (3) Disadvantages: It violates the matching
c. Long-term receivables noninterest bearing – principle and does not report accounts
present value receivable at net realizable value.
4. Subsequent measurement: PAS 39, pa. 46, (4) Direct write-off may be used if bad debt
provides that loans and receivables shall be measured losses are immaterial or if they cannot be
at amortized cost using the effective interest method. estimated. However, if losses cannot be
5. Amortized cost: is the amount at which the estimated, revenue recognition may need to
receivable is measured initially minus principal be deferred.
repayment, plus or minus the cumulative amortization d. Allowance method.
of any difference between the initial amount (1) An estimate of uncollectible accounts is made
recognized and the principal maturity amount minus at the end of each period and recorded via
reduction for impairment or uncollectibility. an adjusting entry.
(2) The entry debits Bad Debt Expense and
D. Presentation of Receivables credits Allowance for Doubtful Accounts
1. All trade receivables are current assets. (a) Bade Debt Expense is an operating
2. Nontrade receivables should be classified as current if expense.
they are expected to be collected within one year or (b) Allowance for Doubtful Accounts is a
the operating cycle, whichever is longer. contra account to Accounts Receivable.
3. Trade and current nontrade is presented as a one line (3) Advantages: Proper matching and accounts
item in the Statement of Financial Position as “Trade receivable valuation.
and Other Receivables”. (4) Disadvantage: It involves estimates.
(5) Two methods for estimating uncollectibles:
E. Accounts receivable (a) Income statement approach.
1. General (b) Statement of financial position approach
a. Accounts receivable are usually limited to (6) If company’s estimates of bad debts seem to
receivables from customer be consistently too high or too low, the
b. Accounts receivable management involves percentage used to make the estimates
balancing the revenues generated by credit sales should be changed.
with the costs of carrying the receivables.
c. Should be reported at net realizable value, which 4. Writing-off uncollectible accounts under the allowance
is the amount expected to be collected and is method.
equal to the face amount less any estimated a. When all reasonable attempts to collect have
uncollectible amount. failed, an account should be written off as
d. Interest is generally ignored. uncollectible.
Jimmy I. Peru, JD, MBM,MICB,CPA RECEIVABLES page 1
 b. The entry debits allowance for doubtful accounts d. Factoring accounts receivable.
and credits accounts receivable. (1) Such an arrangement is a sale transaction.
c. Writing off the account does not affect the net (2) Factor- The institution purchasing the
realizable value of account receivables. accounts receivable.
(3) Factored without recourse- The factor bears
5. Collection of account written off under the allowance the risk that the customer will not pay.
method (4) Factoring usually occurs without recourse and
a. When money is received after an accounts is on a notification basis.
written off, the write-off entry should be reversed (5) Casual factoring vs. Factoring as a continuing
(for the amount received) and then the collection agreement
recorded as usual. (6) In casual factoring, Gain or loss is recognized
for the difference between the proceeds
6. Other applications of the allowance method. received and the net carrying amount of the
a. Sales discounts. receivables factored.
b. Sales returns and allowances. (7) Factoring as a continuing agreement
c. Collection costs. (8) The use of credit cards such as American
d. Freight costs. Express is a form of factoring
e. Although theoretically desirable, most companies (9) A factoring fee is usually charged.
account for these items when they actually occur, (10) Sometimes the factor temporarily holds back
due to materiality considerations. a portion of the cash being paid for the
accounts (receivable from factor) to protect
7. Use of accounts receivable to generate cash. against sales returns and allowances.
a. General.
(1) Companies may need cash immediately F. Note receivable.
rather than waiting for customers to pay their 1. Promissory note- A written promise to pay a certain
accounts. sum at a designated time.
(2) Three methods: Pledging, assigning or 2. Maker- The company giving the note (borrowing the
factoring. money)
(3) The key conceptual issue is whether a 3. Payee- The company receiving the note (loaning the
borrowing transactions or a sale transaction money)
has occurred. 4. Discounting – Selling an endorsed note.
(4) Borrowing transaction: 5. The note is a receivable to the payee.
(a) The receivables are used as collateral for 6. Advantages of notes over accounts receivable.
a loan. a. They are generally easier to collect because it is in
(b) The company continues to report the writing.
receivables as an asset. b. They can be converted into cash by discounting
(c) The company reports the loan and the more easily than assigning or factoring accounts
interest. receivable.
(5) Sale transaction: c. They usually bear interest.
(a) The receivables are removed from the 7. Sources of notes receivable.
books. a. Received for sale of merchandise or other assets.
(b) The cash received and loss on the sale b. Received from customer in “payment of account
are recorded. receivable.
(c) No liability or interest are recorded. c. Received in exchange for outright loan.
8. Valuation of notes receivable.
b. Pledging accounts receivable. a. General.
(1) A borrowing transaction. (1) Notes should initially be valued at the present
(2) Proceeds from collections on accounts value of the amount expected to be collected.
receivable are remitted to the lender and the (2) An allowance for uncollectible notes should be
loan balance reduced. established if they can be reasonably
(3) The amount pledged should be disclosed in estimated.
the financial statements, either (3) All notes contain interest, but sometimes it is
parenthetically or a note. not explicitly stated.
b. Interest-bearing notes receivable.
c. Assigning accounts receivable. (1) Interest is explicitly stated on the note.
(1) A borrowing transaction. (2) If the stated interest rate is reasonable, the
(2) Assignment is more formal than pledging a present value of the note issuance is equal to
financing agreement and promissory nor are its face value.
used. (3) Interest revenue is accrued as time passes.
(3) Assignor – The borrower. c. Noninterest-bearing notes receivable.
(4) Assignee – The lender. (1) The interest is included in the face amount
(5) Nonnotification basis: and not stated separately.
(a) Customers are not told that their (2) The present value of the note is less than its
accounts have been assigned. face amount because interest is included in
(b) Customers continue to pay the assignor, the face amount.
who forwards the cash to the assignee. (3) In theory, the interest should be accounted
(6) Notification basis: for separately.
(a) Customers are told of the assignment. (a) The note is initially recorded at its
(b) Customers pay directly to the assignee. present value and a Discount on Note
(7) The assignor continues to bear the risk that Receivable account is used for the
accounts receivable will not be collected in full difference between face value and
due to sales discounts, returns and present value.
allowances, and bad-debt losses. (b) The Discount account is gradually
(8) The assignee generally lends only a certain reduced as the interest revenue is
percentage of the face amount of the accrued.
accounts assigned. (4) In practice, companies usually record short-
(9) A service charge is usually required in term, noninterest-bearing trade notes at their
addition to interest. face value and ignore the implicit interest
(10) Assignor disclosure. based on materiality considerations.
(a) The assigned accounts should be 9. Discounting notes receivable.
reported separately from unassigned a. Negotiable note- A note that allows collection
accounts receivable. rights to be transferred from the payee to another
(b) A description of the financing agreement entity.
should be included in the financial b. With recourse versus without recourse.
statement notes. c. Notes are generally discounted with recourse,
meaning the endorser remains contingently liable
for payment if the maker defaults.

Jimmy I. Peru, JD, MBM,MICB,CPA RECEIVABLES page 2

 d. Contingent liabilities related to discounted notes discounting takes place. Notes Receivable
must be disclosed in financial statement notes Discounted is a contra account to Notes
even if there is only a remote chance that the Receivable that reveals the existence of the
endorser will have to pay. contingent liability.
e. When a note is discounted, the cash proceeds are (3) Dishonored- The maker fails to pay the note
equal to the maturity value of the note less the at maturity.
bank’s discount. (4) Protest fee- A bank charge when a note is
f. The bank’s discount is determinably the maturity dishonored.
value, the bank’s discount rate, and the amount of i. For notes receivable discounted with recourse
time the bank will hold the note. where the sale is recorded and no contingent
g. The key issue in the accounting is whether a sale liability exists.
transaction or a borrowing transaction has taken j. For notes receivable discounted with recourse
place. where the requirements for a sale are not met,
(1) Discounting without recourse results in a sale the transaction must be accounted for as a
transaction. borrowing.
h. Sale transactions where a contingent liability (1) The notes Receivable account remains on the
exists can be handled two ways: the footnote books.
approach or the contra account approach. (2) A “Liability for Notes Receivable
(1) Under the footnote approach. Notes Discounted” account must be established to
receivable is credited when the discounting reflect the liability for the cash received in the
takes place and the contingent liability is discounting.
disclosed in the footnotes or parenthetically. (3) An actual liability, not a contingent liability,
(2) Under the contra account approach. Notes exists in this instance.
Receivable Discounted is credited when the

Jimmy I. Peru, JD, MBM,MICB,CPA RECEIVABLES page 3