Estimating Bad Debts: Percentage of Sales vs. Aging

Concept

Percentage of Sales (Income Statement Approach)

Estimates bad debt expense as a percentage of credit sales for the period. This approach emphasizes matching — it focuses on getting the EXPENSE correct. The calculation ignores the existing allowance balance.

Concept

Aging of Receivables (Balance Sheet Approach)

Groups receivables by how long they have been outstanding and applies different percentages to each age category. This approach emphasizes the BALANCE SHEET — it focuses on getting the allowance (and therefore NRV) correct.

Example

Aging Schedule

0-30 days: $100,000 × 1% = $1,000. 31-60 days: $40,000 × 5% = $2,000. 61-90 days: $10,000 × 20% = $2,000. Over 90 days: $5,000 × 50% = $2,500. Required allowance balance = $7,500. If the current allowance is $2,000, the adjusting entry is for $5,500.

Key Point

Key Difference

Percentage of sales: compute expense directly, add to allowance. Aging method: compute required allowance balance, then adjust to reach that target.

The Allowance Method

Notes Receivable

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