The difference between an asset’s account balance and the contra account balance is known as the book value. Those who are struggling with recording contra accounts may benefit from utilizing some of the best accounting software currently available. Although each account has a normal balance in practice it is possible for any account to have either a debit or a credit balance depending on the bookkeeping entries made. By using a contra account, the company knows how much its sales were over the course of the year and how much was lost because of discounts and other items. This is good information for managers to have in order to make decisions about the effectiveness of company policy.

  • Suppose a company estimates that 5% of its $200,000 accounts receivable balance is uncollectible.
  • When recording sales transactions, we still must be concerned with whether the company uses perpetual or periodic inventory.
  • Contra asset accounts adjust asset values on the balance sheet to reflect their true economic value.
  • The B/S impact is where the contra liability comes into play, i.e. the historical value of the debt is not impacted by the OID.

The purpose of the Owner’s Withdrawal account is to track the amounts taken out of the business without impacting the balance of the original equity account. Charlene Rhinehart is a CPA , CFE, chair of an Illinois CPA Society committee, and has a degree in accounting and finance from DePaul University. Examples of deferred unearned revenue include prepaid subscriptions, rent, insurance or professional service fees. We strive to empower readers with the most factual and reliable climate finance information possible to help them make informed decisions. Our goal is to deliver the most understandable and comprehensive explanations of climate and finance topics. Carbon Collective is the first online investment advisor 100% focused on solving climate change.

Contra Expense

For instance, if a company purchases equipment for $100,000 with a useful life of 10 years, straight-line depreciation results in an annual expense of $10,000. The accumulated depreciation account increases yearly, reducing the asset’s book value. This adjustment is critical for evaluating the company’s asset management and investment strategies. In this example, the contra expense account (Purchase Discounts) is used to provide a more accurate and detailed representation of the company’s expenses, allowing for better financial analysis and decision-making.

Contra Liability a/c is not used as frequently as contra asset accounts. It is not classified as a liability since it does not represent a future obligation. Including contra accounts on a balance sheet is important as it allows for a more transparent view of a company’s financial position.

Why should one include contra accounts on a balance sheet?

Examples of revenue contra accounts are Sales Discounts, Returns and Allowances. Contra liability accounts such as discount on bonds payable and discount on notes payable usually carry debit balances. This depreciation is saved in a contra asset account called accumulated depreciation. The accumulated depreciation account has a credit balance and is used to reduce the carrying value of the equipment.

The revenue contra accounts Sales Returns, Discounts and Allowances are subtracted from the main Sales Revenue account to present the net balance on a company’s income statement. Whereas assets normally have positive debit balances, contra assets, though still reported along with other assets, have the contra account purchases discount has a normal debit balance. an opposite type of natural balance. Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean. If a contra account is not used, it can be difficult to determine historical costs, which can make tax preparation more difficult and time-consuming. These contras reduce the equity account and carry a debit balance.

We believe that sustainable investing is not just an important climate solution, but a smart way to invest. When the original dollar amount is kept in the original account and a separate account is used for recording the deduction, the resulting financial information becomes more transparent and helpful for stakeholders. For example, a building is acquired for $20,000, that $20,000 is recorded on the general ledger while the depreciation of the building is recorded separately. Get instant access to video lessons taught by experienced investment bankers. The OID is calculated as the difference between the redemption price and the discounted issuance price. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years.

When a company gives a discount to customers in an effort to convince them to buy its goods or services, it is recorded in the discount on sales account. A contra account is a general ledger account with a balance that is the opposite of another, related account that it is paired with. The B/S impact is where the contra liability comes into play, i.e. the historical value of the debt is not impacted by the OID. In spite of its name, contra liabilities function more similarly to assets. 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. Contra liability accounts adjust the carrying value of liabilities, offering a clear view of a company’s financial obligations.

Examples of equity contra accounts are Owner Draws and Repurchased Treasury Stock Shares. Discount on Bonds Payable is a contra liability account with a debit balance that reduces the normal credit balance of its parent Bonds Payable liability account in order to present the net value of payables on a company’s balance sheet. Discount on Notes Receivable is a contra asset account with a credit balance that reduces the normal debit balance of its parent Notes Receivable asset account in order to present the net value of receivables on a company’s balance sheet.

Examples of contra liabilities are Discounts on Bonds and Notes Payable and Short-Term Portion of Long-Term Debt. Contra Liability Account – A contra liability account is a liability that carries a debit balance and decreases other liabilities on the balance sheet. The credit balance in the liability account Bonds Payable minus the debit balances in the contra-liability accounts Discount on Bonds Payable and Bond Issue Costs results in the carrying value or book value of the bonds. The credit balance in Notes Payable minus the debit balances in Discount on Notes Payable is the carrying value or book value of the notes payable.

Journal Entry

Contra equity reduces the total number of outstanding shares on the balance sheet. The key example of a contra equity account is Treasury stock, which represents the amount paid to buyback stock. From the table above it can be seen that assets, expenses, and dividends normally have a debit balance, whereas liabilities, capital, and revenue normally have a credit balance. However, that $1.4 billion is used to reduce the balance of gross accounts receivable.

So for example there are contra expense accounts such as purchase returns, contra revenue accounts such as sales returns and contra asset accounts such as accumulated depreciation. 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 liabilities reduce liability accounts and carry a debit balance. Contra equity accounts carry a debit balance and reduce equity accounts. Contra revenue accounts reduce revenue accounts and have a debit balance.

A contra account is also known as a valuation allowance, because it adjusts the carrying value of the account with which it is paired. A company might decide to purchase its stock when the board of directors feel the stock is undervalued or when it wishes to pay its shareholders dividends. The amount on the equity contra account is deducted from the value of the total number of outstanding shares listed on a company’s balance sheet. Contra account is important as it not only allows a company to report the original amount of a transaction but also report any reductions that may have happened so that the net amount will also be reported. They are useful in preserving the historical value in the main account while presenting a write-down or decrease in a separate contra account that nets to the current book value. It should be noted that if an account is normally a debit balance it is increased by a debit entry, and if an account is normally a credit balance it is increased by a credit entry.

Inventory: Discounts

The discount on bonds payable is a notable example, reducing the face value of bonds issued below their market value. For instance, if a company issues $1,000,000 in bonds at a 5% discount, the discount of $50,000 lowers the carrying amount to $950,000. This adjustment impacts interest expense calculations and the effective interest rate, helping stakeholders evaluate debt management and cost of capital strategies. For example, the discount on bonds payable reduces the carrying value of bonds, reflecting the true cost of borrowing. This adjustment is vital for investors and analysts evaluating a company’s debt obligations and interest expenses. In the accounting general ledger, the credit balances of the contra purchase expense accounts reduce and offset the usual debit balances reported in the standard purchase expense accounts.