Pauline’s Pottery has always used the direct write-off method to account for un-collectibles. The company’s revenues, bad debt write-offs, and year-end receivables for the most recent year follow
The business is applying for a bank loan, and the loan officer requires figures based on the allowance method of accounting for bad debts. In the past, bad debts have run about 4% of revenues.
Pauline must give the banker the following information:
1. How much more or less would net income be for 2016 if Pauline’s Pottery were to use the allowance method for bad debts? Assume Pauline uses the percent-of-sales method.
2. How much of the receivables balance at the end of 2016 does Pauline’s Pottery actually expect to collect? (Disregard beginning account balances for the purpose of this question.)
3. Explain why net income is more or less using the allowance method versus the direct write-off method for un-collectibles.