Accounts Uncollectible

What Are Accounts Uncollectible?

Accounts uncollectible are receivables, loans, or other debts that have virtually no chance of being paid. An account may become uncollectible for many reasons, including the debtor's bankruptcy, an inability to find the debtor, fraud on the part of the debtor, or lack of proper documentation to prove that debt exists.

Understanding Accounts Uncollectible

When a customer purchases goods on credit with its vendor, the amount is booked by the vendor under accounts receivable. The payment terms vary, but 30 days to 90 days is normal for most companies.

If a customer has not paid after three months, the amount may be assigned under "aged" receivables, and if more time passes, the vendor could classify it as a "doubtful" account. At this point, the company believes that receiving all or part of the outstanding amount is doubtful, and will, therefore, debit the bad debt amount and credit allowance for doubtful accounts.

For bookkeeping, it will write off the amount with journal entries as a debit to allowance for doubtful accounts and credit to accounts receivable. When it is confirmed that the company will not receive payment, this will be reflected in the income statement with the amount not collected as bad debt expense. Increasing a bad debt expense reduces profits.

Accounts uncollectible can provide a significant amount of insight into a company's lending practices and its customers. For example, if a company notices that its accounts uncollectible are either remaining steady or increasing, it is extending credit to risky customers and therefore should improve its vetting measures.

Example of Accounts Uncollectible

Let's say Barry and Sons Boot Makers sold $5 million worth of boots to many customers. Barry and Sons Boot Makers would record revenues of $5 million and accounts receivable of $5 million. For simplicity's sake, we'll assume all sales were made on credit. Of that $5 million in sales, $1 million was from Fancy Foot Store.

Fancy Foot Store declares bankruptcy and it is uncertain if they will be able to pay the $1 million. Barry and Sons Boot Makers shows $5 million in accounts receivable but now also $1 million in allowance for doubtful accounts, which would be $4 million in net accounts receivable.

It's eventually determined that Fancy Foot Store had creditors in line that received all assets as priority lenders, therefore, Barry and Sons Boot Makers will not be receiving the $1 million. The entire amount is written off as bad debt expense on the income statement and the allowance for doubtful accounts is also reduced by $1 million.