claiming debt

Bad Debt Expense:

When a company needs to add to its allowance, it does so by recording a bad-debt expense for the necessary amount. For example, you need an allowance of $300 but currently only have $200 committed to the allowance. You would record a bad-debt expense of $100 on your income statement and increase the allowance by $100, to the new total of $300. Notice that you record the bad-debt expense -- and therefore reduce your profit -- only in anticipation of customers failing to pay their bills. No debts have actually gone bad yet. This follows the accounting principle of conservatism: A company should never overstate its assets, and failing to recognize that certain customer bills won't be paid would overstate the value of accounts receivable, which is an asset.

Actual Write-Offs:

At some point a debt will actually go bad -- a customer will fail to pay a bill for long enough that the company concludes that the account is uncollectible. When that happens, the company writes off the debt. For example, you have $20,000 in accounts receivable and a $300 allowance, for a net of $19,700. You determine that a customer who owes you $180 is never going to pay. To write off the debt, reduce both accounts receivable and the allowance by the amount of the bad debt -- $180. You now have an accounts receivable balance of $19,820 and an allowance of $120. Net accounts receivable remains the same: $19,700. The write-off doesn't directly affect your company's profitability because you've already "expensed" the bad debt. However, you may need to incur a new bad debt expense to replenish your allowance.