Examples of revenue contra accounts are Sales Discounts, Returns and Allowances. Companies that take advantage of sales discounts usually record them in an account named purchases discounts, which is another contra‐expense account that is subtracted from purchases on the income statement. If Music Suppliers, Inc., offers the terms 2/10, n/30 and Music World pays the invoice’s outstanding balance of $900 within ten days, Music World takes an $18 discount. To record this payment to Music Suppliers, Inc., Music World makes a compound journal entry that decreases accounts payable for $900, decreases cash for $882, and increases purchases discounts for $18. There are four key types of contra accounts—contra asset, contra liability, contra equity, and contra revenue. Contra assets decrease the balance of a fixed or capital asset, carrying a credit balance.

• Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean.
• Contra accounts are accounts that are related, yet separate from its particular account.
• In either case, using these accounts can help you better manage depreciation expense, keep your accounts receivable balance accurate, and properly dispose of and account for obsolete inventory.
• Debit depreciation expense for $18,625 and credit accumulated depreciation-equipment for $18,625.
• Consequently, in the first year, the equipment would reflect a net value of $90,000, which is computed by deducting the accumulated depreciation from the equipment’s historical cost.
• At this point, it isn’t known which accounts will become uncollectible so the Accounts Receivable balance isn’t adjusted.

It’s important to separate operating expenses and non-operating expenses in the income statement. The outstanding balance of a contra asset account represents a credit figure. These accounts are maintained individually and are adjusted from the corresponding asset’s balance to show the net amount of the assets in financial statements. A contra account is used for account classification and is also reported in a company’s financial statement alongside its corresponding or related account. When reporting a contra account in a company’s financial statement, it is reported immediately below the account it relates to or corresponds. Contra accounts have different names depending on the account they correspond.

Adjusting Journal Entries | Accounting Student Guide

Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean. Again, accumulated depreciation reduced fixed and capital asset balances. Apple breaks out its amount of property, plant, and equipment (PP&E) and then lists its accumulated deprecation that reduces the PP&E figure. Contra expense accounts are rarely used, because organizations find it to be easier to record third-party payments directly against an expense account. However, these accounts are still useful when dealing with large quantities of reimbursements, where it is cleaner and less confusing to store the information in a separate account. Thus, the use of a separate contra expense account makes it easier to monitor the flow of expenses and reimbursements. You can offset the two invoices by creating a bank account specifically for the contra entry.

The fixed asset account tracks the cost.The fixed asset account minus accumulated depreciation is used to calculate the book value. Balance sheet, users of financial statements can learn more about the assets of a company. For example, if a company just reported equipment at its net amount, users would not be able to observe the purchase price, the amount of depreciation attributed to that equipment, and the remaining useful life.

Maintenance of Historical Cost

Contra asset accounts are credited when these are increased and debited when these are decreased. There are generally two contra asset accounts used by companies that are an allowance for doubtful debts account and an accumulated depreciation account. Accumulated depreciation has a credit balance because it’s used in combination with its related fixed asset account to calculate the net value of a building, vehicle, piece of equipment, or other fixed asset. With each debit to the depreciation expense account, a corresponding credit is created in the accumulated depreciation account.

The contra equity account reduces the total amount of shareholders’ equity. Accumulated DepreciationThe accumulated depreciation of an asset is the amount of cumulative depreciation charged on the asset from its purchase date until the reporting date. It is a contra-account, the difference between the asset’s purchase price and its carrying value on the balance sheet. The transactions What is a Contra Expense Account? made in this account are reported on a company’s financial statements directly under the related account. Now let’s focus our attention on the two most common contra assets – accumulated depreciation and allowance for doubtful accounts. Contra asset accounts can be used in a variety of areas, but there are three contra asset examples that you should pay close attention to.

What is a Contra Expense?

Emilie is a Certified Accountant and Banker with Master’s in Business and 15 years of experience in finance and accounting from corporates, financial services firms – and fast growing start-ups. Salaries pertain to fixed payments and represent non-hourly labor, while wages pertain to payments based on hourly labor. This, of course, changes if an asset is sold because the accumulated depreciation account must be zeroed out. Mark to market is a method of measuring the fair value of accounts that can fluctuate over time, such as assets and liabilities. Depreciation is an accounting method of allocating the cost of a tangible asset over its useful life to account for declines in value over time. She is an expert in personal finance and taxes, and earned her Master of Science in Accounting at University of Central Florida.

You can estimate the total to record in the allowance for doubtful accounts based on uncollectible revenue totals from the previous year or you can conservatively estimate the amount. Contra accounts provide more detail to accounting figures and improve transparency in financial reporting. A contra account is an account used in a general ledger to reduce the value of a related account. Knowing the true cost of individual products and services is crucial for product planning, pricing, and strategy. Traditional costing sometimes gives misleading estimates of these costs.

Bills Payable Meaning

It is linked to specific accounts and is reported as reductions from these accounts. Emilie is a Certified Accountant and Banker with Master’s in Business and 15 years of experience in finance and accounting from large corporates and banks, as well as fast-growing start-ups. An account with a balance that is the opposite of the normal balance. Peggy James is a CPA with over 9 years of experience in accounting and finance, including corporate, nonprofit, and personal finance environments. She most recently worked at Duke University and is the owner of Peggy James, CPA, PLLC, serving small businesses, nonprofits, solopreneurs, freelancers, and individuals. Free AccessFinancial Metrics ProKnow for certain you are using the right metrics in the right way.

• Occasionally, the university makes an agreement with an external entity to share the expenses of a particular activity.
• Firms that sell to other businesses designate their major repeat customers as accounts.
• In bookkeeping, a contra asset account is an asset account in which the natural balance of the account will either be a zero or a credit balance.
• Liability category accounts increase with a credit and decrease with a debit.
• The difference between an asset’s account balance and the contra account balance is known as the book value.
• When a business has incurred an expense but has not yet paid for it, a corresponding liability account should be recognized which is referred to as accrued expenses.

The reduction in the sale price of a product due to quality defects or mistakes, in an effort to encourage the customer to keep a product with minor defects in exchange for the discount. Just in case you wanted to run a report from your accounts, you can click thedrop-down▼ button on the Action column and then selectRun https://simple-accounting.org/ report. We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.

Define Account (for Accounting)

These five kinds of items, in fact, represent the five account categories in an accrual accounting system. As a result, the accrual accounting system also provides the basis for the financial reports the firm must file periodically. An individual account is an electronic or paper record stating a financial balance for a specific item, class of items, or purpose.