A contra account is an entry on the general ledger with a balance contrary to the normal balance for that categorization (i.e. asset, liability, or equity). By keeping the original dollar amount intact in the original account and reducing the figure in a separate account, the financial information is more transparent for financial reporting purposes. For example, if a piece of heavy machinery is purchased for $10,000, that $10,000 figure What Is A Contra Asset Account? is maintained on the general ledger even as the asset’s depreciation is recorded separately. This account serves two purposes — tracking total depreciation expenses while providing you with the accurate book value of the asset being depreciated. Another type of contra account is known as “contra revenue,” which is used to adjust gross revenue to calculate net revenue, i.e. the “final” revenue figure listed on the income statement.

A business might elect to separately state contra asset accounts on its balance sheet, so that the users of its financial statements can obtain additional information about the contents of these accounts. Contra asset accounts include allowance https://kelleysbookkeeping.com/the-ultimate-guide-to-shopify-accounting-and/ for doubtful accounts and accumulated depreciation. Contra asset accounts are recorded with a credit balance that decreases the balance of an asset. A key example of contra liabilities include discount on notes or bonds payable.

An example of recording a contra asset

A contra liability is an account in which activity is recorded as a debit balance is used to decrease the balance of a liability. Contra Liability a/c is not used as frequently as contra asset accounts. It is not classified as a liability since it does not represent a future obligation. Normal asset accounts have a debit balance, while contra asset accounts are in a credit balance.

However, that $1.4 billion is used to reduce the balance of gross accounts receivable. Therefore, contra accounts, though they represent a positive amount, are used to net reduce a gross amount. For this reason, contra accounts are primarily seen as having negative balances because they are used to reduce the balance of another account.

How to Use Contra Asset Accounts

The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible. The amount is reported on the balance sheet in the asset section immediately below accounts receivable. Allowance for doubtful accounts (ADA) is a contra asset account used to create an allowance for customers who are not expected to pay the money owed for purchased goods or services. The allowance for doubtful accounts appears on the balance sheet and reduces the amount of receivables.

• By combining the balances in these two accounts, one can determine the net amount of receivables that the reporting entity expects to receive.
• There is no reason for there to ever be a debit balance in a contra asset account; thus, a debit balance probably indicates an incorrect accounting entry.
• The balance sheet would show the piece of equipment at its historical cost, then subtract the accumulated depreciation to reflect the accurate value of the asset.
• The percentage of sales method assumes that the company cannot collect payment for a fixed percentage of goods or services that it has sold.
• For example, if a piece of heavy machinery is purchased for $10,000, that $10,000 figure is maintained on the general ledger even as the asset’s depreciation is recorded separately.

The net amount – i.e. the difference between the account balance post-adjustment of the contra account balance – represents the book value shown on the balance sheet. This type of reporting allows anyone analyzing the balance sheet to understand much more about the company and its assets than if they were to simply look at the net value of the depreciated asset. By reflecting both accounts on the balance sheet, analysts can understand both the original price and the total decrease in value of a certain asset over time. The difference between an asset’s account balance and the contra account balance is known as the book value. GAAP, the allowance for doubtful accounts represents management’s estimate of the percentage of “uncollectible” accounts receivable (i.e. the credit purchases from customers that are not expected to be paid).