What is the provision for doubtful debts?

The provision for doubtful debts is identical to the allowance for doubtful accounts. The provision is the estimated amount of bad debt that will arise from accounts receivable that have not yet been collected.

You typically estimate the amount of bad debt based on historical experience, and charge this amount to expense with a debit to the bad debt expense account (which appears in the income statement) and a credit in the provision for doubtful debts account (which appears in the balance sheet). You should make this entry in the same period when you bill the customer, so that revenues are matched with all applicable expenses (as per the matching principle).

The provision for doubtful debts is an accounts receivable contra account, so it should always have a credit balance, and is listed in the balance sheet directly below the accounts receivable line item.

Later, when you identify a specific customer invoice that is not going to be paid, you eliminate it against the provision for doubtful debts. This can be done with a journal entry that debits the provision for doubtful debts and credits the accounts receivable account; this merely nets out two accounts within the balance sheet, and has no impact on the income statement. If you are using accounting software, you would create a credit memo in the amount of the unpaid invoice, which creates the same journal entry for you.

It is highly unlikely that the provision for doubtful debts will always exactly match the amount of invoices that are actually unpaid, since it is only an estimate. Thus, you will need to adjust the balance in this account over time to bring it into closer alignment with your ongoing best estimate of bad debts. This can involve an additional charge to the bad debt expense account (if the provision appears to initially be too low) or a reduction in the expense (if the provision appears to be too high).

Similar Terms

The provision for doubtful debts is also known as the provision for bad debts and the allowance for doubtful accounts.

Related Topics

Allowance for doubtful accounts
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