Bad Debts Recovered Journal Entry
Introduction
Bad debts may be recovered after the customer’s account has been written off from the balance sheet. This happens when the company receives the cash payment from customers on the accounts receivable that have been mistakenly written off. In this case, the company can make the bad debts recovered journal entry when it receives the cash payment from the customer’s account that has already been removed from the balance sheet.
Accounts receivable on the balance sheet is the right of receiving cash payment from the customers who make the purchase on account or on credit. In other words, the existence of the accounts receivable is the result of the company, which is the seller, allowing the customer to obtain goods and pay later. This is a common occurrence in the modern-day as the company usually needs to make the sale on credit in order to compete in this competitive market.
However, due to the default risk, not all accounts receivable will be collected. Some of them appear to be bad debts as the customers will be unable to pay or unwilling to pay the debts. In such a situation, the company may need to write off the accounts receivable of those customers. Though, this usually only happens when the company is sure that the customers will not pay back anymore.
Of course, even though the company’s estimation for writing off bad debt is usually based on strong evidence or some significant indications of the customers’ situations, the estimation can still be wrong sometimes. This is when the customers come to pay their debts after their accounts have already been written off from the balance sheet.
In this case, the company needs to recognize and record the cash payment received as the bad debt recovered by restating the customer’s account back to the balance sheet and recording the cash received as accounts receivable collection. Of course, this is for the company that uses the allowance method in dealing with doubtful accounts or bad debt.
If the company uses the direct write-off method, it can simply reverse bad debt expense in the write-off transaction for the bad debt recovered journal entry with the cash received. Though, the direct write-off method is usually only used when the company has an insignificant amount of bad debt. If the amount is significant or material, this method is not allowed as it goes against the accounting rule.
Journal Entry for bad debt recovered
Allowance method
As mentioned, under the allowance method, the company needs to restate or put back the customer’s account to the balance sheet first before it can record the cash payment received as accounts receivable collection for bad debt recovered.
In this case, the company can make the journal entry for bad debt recovered by debiting the accounts receivable account and crediting the allowance for doubtful accounts. And then, it can record the cash received as accounts receivable collection with the debit of the cash account and the credit of the accounts receivable as below:
| Account | Debit | Credit |
|---|---|---|
| Accounts receivable | $$$ | |
| Allowance for doubtful accounts | $$$ |
| Account | Debit | Credit |
|---|---|---|
| Cash | $$$ | |
| Accounts receivable | $$$ |
Under the allowance method, there is no effect on the income statement item for the bad debt recovered journal entry. In other words, only balance sheet items are affected as in the journal entries above.
Direct write off method
As mentioned, if the company uses the direct write-off method, it can simply reverse the bad debt expense that has been made in the write-off transaction for the bad debt recovered.
In this case, the company can make the journal entry for bad debt recovered under the direct write-off method by debiting the cash account and crediting the bad debt expense account.
| Account | Debit | Credit |
|---|---|---|
| Cash | $$$ | |
| Bad debt expense | $$$ |
Example of bad debt recovered
Allowance method:
For example, on June 30, the company XYZ decide to write off the $10,000 of accounts receivable as it is a customer’s account that has been overdue for more than 360 days already. However, on July 31, the company ABC has unexpectedly received this $10,000 from the customer that has come to pay for their account that has already been written off on June 30, previously.
The company XYZ uses the allowance method to deal with their doubtful accounts and bad debt.
In this case, on June 30, when the company XYZ writes off the $10,000 of accounts receivable it can make the journal entry below:
June 30:
| Account | Debit | Credit |
|---|---|---|
| Allowance for doubtful accounts | 10,000 | |
| Accounts receivable | 10,000 |
Later, when it receives the $10,000 payment from the customer as a form of bad debt recovered, it can make the journal entry for the bad debt recovered as below:
July 31:
| Account | Debit | Credit |
|---|---|---|
| Accounts receivable | 10,000 | |
| Allowance for doubtful accounts | 10,000 |
| Account | Debit | Credit |
|---|---|---|
| Cash | 10,000 | |
| Accounts receivable | 10,000 |
Example 2:
Direct write-off method:
For example, the company ABC sells the inventory to its customer on a credit amount of $5,000. The company is not able to collect the money back as the customer faces financial difficulty and is about to cease the operation.
Based on this information, ABC decide to write off the accounts receivable. However, due to some reasons, the customer’s business is able to survive and continue the operation. It even makes full payment to ABC.
The company ABC uses the direct write-off method to deal with its bad debt as its amount is considered insignificant or immaterial to the financial statements.
In this case, when ABC sells products to the customer, they record accounts receivable and sales revenue. The journal entry is debiting the $5,000 to the accounts receivable and crediting the same amount to the sales revenue accounts.
| Account | Debit | Credit |
|---|---|---|
| Accounts receivable | 5,000 | |
| Sales revenue | 5,000 |
This will increase the accounts receivable by $5,000 on the balance sheet as a current asset as well as increase the sales revenue on the income statement by the same amount.
When the company has enough evidence to write off the bad debt, the accountant will seek approval from the management to write off the accounts receivable as bad debt. The journal entry is debiting the $5,000 to the bad debt expense account and crediting the same amount to the accounts receivable.
Direct write-off method:
| Account | Debit | Credit |
|---|---|---|
| Bad debt expense | 5,000 | |
| Accounts receivable | 5,000 |
This transaction will remove the $5,000 of the accounts receivable from the balance sheet as the company does not expect to collect from the customer. At the same time, it will charge this $5,000 as a bad debt expense to the income statement as a result of bad debt written off under the direct write-off method.
Later, when the customer pays $5,000 for the accounts receivable that have already been written off from the balance sheet, the company can reverse the bad debt expense with the cash received by debiting the cash account and crediting the bad debt expense account for the bad debt recovered journal entry as below:
Bad debt recovered under direct write-off method:
| Account | Debit | Credit |
|---|---|---|
| Cash | 5,000 | |
| Bad debt expense | 5,000 |
