Allowance for doubtful accounts

The allowance for doubtful accounts recognizes a probable loss on a trade receivable in the financial statements. It is based on the pre-tax amount, up to the estimated risk.

Example

An invoice for €12,000 including tax (€10,000 excluding tax) is highly uncertain: the customer is experiencing financial difficulties. The company sets aside 50% of the amount excluding tax, or €5,000. If the customer ultimately pays, the allowance is reversed.

Why It’s Important

It provides a true and fair view of the financial statements and can reduce taxable income if the loss is probable and justified. It also requires monitoring of high-risk accounts.

For more information: The Credit Management Guide.

See also: doubtful customer, receivable, litigation.