What is a Contra Account?

Companies like to depreciate assets as quickly as possible to get the tax savings, so the balance sheet may not state the true value of fixed assets. Note that accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean. Contra Equity Account – A contra equity account has a debit balance and decreases a standard equity account. Treasure stock is a good example as it carries a debit balance and decreases the overall stockholders’ equity.

• After almost a decade of experience in public accounting, he created MyAccountingCourse.com to help people learn accounting & finance, pass the CPA exam, and start their career.
• In order to keep the accounts receivables as clean as possible with their historical values, we will use this contra account called allowance for doubtful accounts.
• A contra expense account is an account used to reduce the amount of an expense without changing the balance in the main expense account.
• On the other hand, if you’re looking at a high-flying growth stock that reports new revenue growth records each quarter but has a massive allowance for doubtful accounts, there may be problems ahead.
• If you’re valuing a low-growth company based on its equipment assets, you want to use the net value to be conservative.

Example of a Contra Expense Account

Any products that are sold at a discount or returns are deducted from gross revenue to produce net revenue as the top line on the income statement. The equity section of the balance sheet is where the shareholder’s claims to assets are reported. The main contra equity account is treasury stock, which is the balance of all stock repurchased by the company.

• Additionally, the use of contra expense accounts can impact key financial ratios, such as the operating margin and net profit margin, by presenting a more accurate measure of the company’s financial performance.
• Within equity, an example of a contra account is the treasury stock account; it is a deduction from equity, because it represents the amount paid by a corporation to buy back its stock.
• He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a degree from Loughborough University.
• A company might decide to purchase its stock when the board of directors feel the stock is undervalued or when it wishes to pay its shareholders dividends.
• These contra revenue accounts tend to have a debit balance and are used to calculate net sales.
• There can be hidden value in stocks that have a lot of fully depreciated buildings.
• But in the real world, converting all of that potential into hard cash is highly unlikely, if not impossible.

What is the Effect of Contra Accounts to the Balance of Related (Paired) Account?

The amount a company records as allowance for doubtful accounts is the amount from its accounts receivable the company considers uncollectible. Make sure that you report contra accounts on the same financial statement as the related accounts. If you’re the one managing your company’s books of accounts, be sure to report the contra account on your financial statement on the line item directly beneath the main account. For the purpose of presentation on primary financial statements, we are often concerned only with the net figure of two similar classes/balances which we determine by subtracting one account from the another.

What is a Contra Liability?

Examples of equity contra accounts are Owner Draws and Repurchased Treasury Stock Shares. Discount on Bonds Payable is a contra liability account with a debit balance that reduces the normal credit balance of its parent Bonds Payable liability account in order to present the net value of payables on a company’s balance sheet. Contra revenue is a general ledger account with a debit balance that reduces the normal credit balance of a standard revenue account to present the net value of sales generated by a business on its income statement. The balance sheet would report equipment at its historical cost and then subtract the accumulated depreciation. A contra liability is a general ledger account with a debit balance that reduces the normal credit balance of a standard liability account to present the net value on a balance sheet. Examples of contra liabilities are Discounts on Bonds and Notes Payable and Short-Term Portion of Long-Term Debt.

• The credit balance in the liability account Bonds Payable minus the debit balances in the contra-liability accounts Discount on Bonds Payable and Bond Issue Costs results in the carrying value or book value of the bonds.
• If a reduction or rebate occurs, a credit is made to the contra expense account, which offsets the original expense.
• To avoid this loss of important data, we record actual cost and depreciation in separate ledger accounts.
• A liability that is recorded as a debit balance is used to decrease the balance of a liability.
• For instance, the company might debit its expense account 4210 Employee Health Insurance Expense when recording the insurance company’s invoice of $10,000.
• A company receives rebates for advertising it does on behalf of brands it carries in its stores.
• The credit balance in Notes Payable minus the debit balances in Discount on Notes Payable is the carrying value or book value of the notes payable.

Contra Expense Account

When a contra asset account is first recorded in a journal entry, the offset is to an expense. For example, an increase in the form of a credit to allowance for doubtful accounts is also recorded as a debit to increase bad debt expense. If a company has receivables, this means it has made a sale on credit but has yet to collect the money from the purchaser. Remember that financial assets are deemed as having economic value, and can be expressed, in accounting terms, as cash. Also known as a bad debt reserve, this is a contra account listed within the current asset section of the balance sheet.

Contra Account: A Complete Guide + Examples

Instead, you need to record this value gap, and a contra asset account serves that purpose. Therefore, to ensure accounts receivable stays clean and transparent, CCC will record $2,500 in the contra asset account called “Allowance for Doubtful Accounts”. This will ensure the net value of accounts receivable at year-end is not overstated. For liability and revenue accounts, credit transactions will increase and debit transactions will decrease the account balances.

• If we record depreciation expense in the cost accounts directly, we will lose key information about the original cost of the assets and accumulated depreciation.
• Any products that are sold at a discount or returns are deducted from gross revenue to produce net revenue as the top line on the income statement.
• Furthermore, accounts receivable are current assets, meaning the account balance is due from the debtor in one year or less.
• Remember that financial assets are deemed as having economic value, and can be expressed, in accounting terms, as cash.
• The company predicts which accounts receivable won’t be paid by customers and writes those off.
• Fortunately, the seat vendor offered an early payment discount of 5%, meaning that when Show-Fleur paid off its full credit note within the first 30 days, it recouped $30 thousand in savings.

Yarilet Perez is an experienced multimedia journalist and fact-checker with a Master of Science in Journalism. contra expense account She has worked in multiple cities covering breaking news, politics, education, and more.