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17/03/2015 03:43:00 PM

How to Determine Bad Debts Expense for an Income Statement Using a Cash Budget

A business will frequently engage in both cash and credit sales. When dealing with any sort of credit sale or receivable account, companies must plan for receivables will not be collected. These never-collected accounts are referred to as a bad debt expense within a company's budget. When compiling business forecast and closing financial statements, the business must have reasonable expectations regarding its ability to collect outstanding debts and to estimate how many receivables will go bad during the upcoming year. This allowance for bad debts allows the company to have a truer picture of its profit or loss.
 

Determining the Bad Debt Expense

  • 1

    Add together all of the receipts from cash sales and credit sales. Credit sales are optimally turned into cash at some point, so you should include credit receipts with cash receipts to begin determining the bad debt expense.

  • 2

    If your business has just begun operation, you may not have a previous allowance for any bad debts. Within the credit sales, use whatever criteria your business uses for deeming a debt "uncollectible." These amounts should be added together to determine the percentage of receivables that can be considered bad debts and will provide a benchmark for future years.

  • 3

    Multiply the expected bad debt expense by your total sales amount. For example, if the anticipated bad debt expense is 5 percent of sales, then you should multiply your total sales amount by 5 percent. This figure will serve in future periods as your "allowance for bad debts" account.

  • 4

    In your income statements, you will enter the amount calculated as your "allowance for bad debt." In future years, any receivables deemed as bad debts should be deducted against this account. By setting an expectation of bad debt at the beginning of the period, you will have a more accurate estimate of your eventual sales and your overall operating income.

    Source: www.ehow.com