What is a contra-liability account?

For example, an increase in the form of a credit to allowance for doubtful accounts is also recorded as a debit to increase bad debt expense. 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.

• In M&A transactions, such as a leveraged buyout (LBO), financing fees are another example of a contra liability.
• Sometimes, both accounts can be written in a single line if they don’t represent a large portion of the assets.
• In other words, contra revenue is a deduction from gross revenue, which results in net revenue.
• The example for contra liability accounts includes, discount on bonds payable and discount on notes payable which carry normal debit balances.

Key examples of contra asset accounts include allowance for doubtful accounts and accumulated depreciation. Allowance for doubtful accounts reduce accounts receivable, while accumulated deprecation is used to reduce the value of a fixed asset. The natural balance in a contra asset account is a credit balance, as opposed to the natural debit balance in all other asset accounts. There is no reason for there to ever be a debit balance in a contra asset account; thus, a debit balance probably indicates an incorrect accounting entry. When a contra asset transaction is created, the offset is a charge to the income statement, which reduces profits. The contra revenue accounts commonly include sales returns, sales allowance and sale discounts.

What is a Contra Liability?

With contra equity accounts, you reduce the number of outstanding shares you list on your company’s balance sheet. Treasury stock and owner’s drawing account are examples of contra equity accounts. Examples include accumulated depreciation, sales returns and allowances, and contra equity accounts like treasury stock.

Paul Boyce is an economics editor with over 10 years experience in the industry. Currently working as a consultant within the financial services sector, Paul is the CEO and chief editor of BoyceWire. He has written publications for FEE, the Mises Institute, and many others. The purpose of the Allowance for Doubtful Accounts is to track the reduction in the value of the asset while preserving the historical value of the asset. 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.

What is a contra account?

While there is nothing wrong here, there is also another way you could represent it i.e. show the full value of machinery (cost) in the balance sheet and then reduce the depreciation amount. The Allowance for Doubtful Accounts is used to track the estimated bad debts a company my incur without impacting the balance in its related account, Accounts Receivable. An estimate of bad debts is made to ensure the balance in the Accounts Receivable account represents the real value of the account. Allowance for Doubtful Accounts pairs with the Bad Debts Expense account when doing adjusting journal entries. Whenever the balance of an account needs to be reduced in a company’s ledger, it is not always applicable to credit the account if it is an asset or debit the account if it is a liability.

My Accounting Course  is a world-class educational resource developed by experts to simplify accounting, finance, & investment analysis topics, so students and professionals can learn and propel their careers. Deferred taxes payable refers to the amount of income tax that a company has temporarily cash flow statement template deferred and is obligated to pay in the future. When the company pays the cost of having the flyer printed, a journal entry is done. The purpose of the Sales Returns account is to track the reduction in the value of the revenue while preserving the original amount of sales revenue.

What are examples of contra accounts?

If there’s an increase to allowance for uncollectible accounts, you record the same amount in the bad debt expense of your income statement. Similarly, accumulated depreciation accounts reduce the value of the fixed assets you report on your financial statements. Contra liability accounts such as discount on bonds payable and discount on notes payable usually carry debit balances. Contra liability accounts are less commonly used than contra asset accounts. Contra liability accounts are mainly used by corporations that issue bonds frequently. That is because some of the bonds are issued at a discount, so this reduces the balance of their bonds payable.

In anticipation of this, the company will create an entry on the balance sheet called inventory reserve. Inventory reserve accounts for the predicted amount of inventory that will not be able to be sold that year. Inventory is counted as an asset, and inventory reserve is counted as a contra asset, in that it reduces the net amount of inventory assets at the company. An inventory reserve is a contra asset account on a company’s balance sheet made in anticipation of inventory that will not be able to be sold. Every year, a company has an inventory that will not be able to be sold for various reasons.

Examples of Contra Liability Account

For you to show the deprecation in the balance sheet, you need a contra account which will hold the accumulated value of depreciation and latter, offset with machinery account. Here ‘Accumulated Depreciation’ is a contra account and following are the journal entries to be recorded in the books of accounts for first year to account depreciation. Although the car is normally an asset because you can sell it for parts or use it for your business, when the car depreciates to a zero or negative balance, it is a contra asset on your balance sheet. The exact process can vary depending on the specific contra account and the accounting practices of the company. However, the fundamental principle is that the contra account is used to offset the related main account, providing a more nuanced view of the company’s financial position.

• In a sales returns and allowances contra revenue account, you offset the balance in the sales revenue account.
• If the related account is a liability account, then a contra liability account is used to offset it with a debit balance.
• Therefore, contra accounts, though they represent a positive amount, are used to net reduce a gross amount.
• Contra equity is a general ledger account with a debit balance that reduces the normal credit balance of a standard equity account to present the net value of equity in a company’s financial statements.

Contra equity accounts are accounts in the equity section of the balance sheet that reduce the amount of equity a company holds. Therefore, contra equity accounts have a debit balance to offset their corresponding equity balances. However, some asset accounts need a negative counterpart to reduce the balance of that account. The debit balance of the asset account and the credit balance of the contra asset account determine the net value of the asset. A contra liability account is paired with another liability account, and is used to reduce the balance in that account.