Allowance and direct methods

The Allowance Method

The allowance method and the direct method are the two main techniques typically used by companies to deal with bad debts. The depreciation method is considered a better alternative to the direct depreciation method based on relevant accounting principles (Porter and Norton 324). This means that the provision method is justified because the bad debt expense can be recognized in the period in which the related income is realized. Bad debts are therefore assessed and bad debts recognized before the overdue amount becomes truly uncollectible. Using this accounting policy, unrecoverable expenses are recognized on a timely basis because they are likely to be reasonably predictable. Therefore, they justify the principle required for acknowledgment of possible losses. In other words, under the allowance technique, a business estimates a bad debt expense in advance and deducts the expense from the allowance account.

The Direct Write-off Method

On the contrary, in the write-off method, bad debts are directly written off alongside proceeds at a time when they are actually acknowledged as uncollectible accounts receivable. It would involve debiting the expense account and crediting the receivable accounts (Kieso et al. 352). The direct write-off technique is normally justified based on its simplicity. For instance, businesses do not have to estimate the accounts that are unlikely to be collected. It is because a debt is written off, once the business is certain. However, the direct write-off method is not considered a better alternative because it violates the matching principle of accounting. For instance, a business can only be certain that a debt is uncollectible after the end of the accounting period. Consequently, using the direct write-off method forces a business to recognize uncollectible expenses, which are partly associated with the preceding accounting period (Porter and Norton 326). Therefore, the use of this method would lead to a deduction of the expense of the preceding period against incomes of the present period. It contradicts the matching principle, thus, making the allowance method the best alternative, unless bad debts are immaterial.

Works Cited

Kieso, Donald E, et al. Intermediate Accounting. Wiley, 2011.

Porter, Gary A., & Norton, Curtis L. Financial Accounting: The Impact on Decision Makers. Cengage Learning, 2016.