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In this way, an accumulated amortisation account offsets a related asset account (which is recorded as a debit). The net of the asset and its related contra asset account is referred to as the asset’s book value or carrying value. The difference between an asset’s account balance and the contra account balance is known as the book value. Contra accounts are used to help a company report the original amount of a transaction as well as reductions that may have happened. They serve an invaluable function in financial reporting that enhances transparency in accounting books.
A contra asset is a negative asset account that offsets the asset account with which it is paired. The purpose of a contra asset account is to store a reserve that reduces the balance in the paired account.
The balance in the contra account is reduced when the corresponding asset or liability it is paired with is disposed of. When recording assets, the difference between the asset’s account balance and the contra account balance is the book value of the asset. You’ll continue to use the contra asset account until the equipment has been completely depreciated, retired, or sold.
Examples of contra accounts include allowance for doubtful accounts, reserve for obsolete inventory, and accrued liabilities. Each of these accounts helps to offset another account on the balance sheet. For instance, the allowance for doubtful accounts reduces the net amount of accounts receivable, while the reserve for obsolete inventory does the same for inventory. Similarly, accrued liabilities reduce the total amount of current liabilities. Including contra accounts on a balance sheet is important as it allows for a more transparent view of a company’s financial position.
Contra assets decrease the balance of a fixed or capital asset, carrying a credit balance. Contra revenue accounts reduce revenue accounts and have a debit balance. By reporting contra asset accounts on the balance sheet, users of financial statements can learn more about the assets of a company. Contra asset accounts allow users to see how much of an asset was written off, its remaining useful life, and the value of the asset.
The contra asset account Accumulated Depreciation is related to a constructed asset(s), and the contra asset account Accumulated Depletion is related to natural resources. Reserve for obsolete inventory is a contra asset https://personal-accounting.org/what-is-a-contra-asset-account/ account used to write down the inventory account if inventory is considered obsolete. Excess, stored inventory will near the end of its lifespan at some point and, in turn, result in expired or unsellable goods.
The drawing account is a contra equity account, and is therefore reported as a reduction from total equity in the business. Thus, a drawing account deduction reduces the asset side of the balance sheet and reduces the equity side at the same time.
Whether reported as separate lines on the financial report or as a cumulative value, the net amount of the pair of accounts is called the “net book value” of the individual asset. A company creates allowances for doubtful accounts to record the portion of accounts receivable which it believes it will no longer be able to collect. The amount in allowance for doubtful accounts is deducted from the accounts receivable account of a company. Accounts receivable (A/R) has a debit balance, but the allowance for doubtful accounts carries a credit
balance. A contra account enables a company to report the original amount while also reporting the appropriate downward adjustment. The discount on bonds payable amount shows the difference between the amount of cash received when issuing a bond and the value of the bond at maturity.
Accumulated depreciation is a contra asset account used to record the amount of depreciation to date on a fixed asset. Examples of fixed assets include buildings, machinery, office equipment, furniture, vehicles, etc. The accumulated depreciation account appears on the balance sheet and reduces the gross amount of fixed assets.
Far less common is the obsolete inventory reserve, which reduces the overall inventory value on the balance sheet. This contra account holds a reserve, similar to the allowance for doubtful accounts. For each debit against the inventory account, there will be a corresponding credit against the obsolete inventory contra account. The allowance for doubtful accounts is a contra asset because it reduces the value of the accounts receivable (AR) account on the general ledger.
Accumulated depreciation decreases the value of an asset, bringing it more in line with its market value. Inventory obsolescence is an expense account, while the allowance for obsolete inventory is a contra asset account, which aims to reduce the inventory valuation on your balance sheet. Contra asset accounts provide business owners with the true value of certain asset accounts. For example, let’s say your accounts receivable balance is currently $11,500, but you’re not entirely sure that you’ll be able to collect the entire balance due.
