7.3 Depreciation & Bad Debts

7.3 Depreciation & Bad Debts

Quick Answer: For TESDA Bookkeeping NC III, compute straight-line depreciation as (Cost − Residual value) ÷ Useful life, then debit Depreciation Expense and credit Accumulated Depreciation. For receivables, prefer the allowance method (estimate bad debts expense; maintain Allowance for Doubtful Accounts). Know direct write-off as an awareness contrast: it debits Bad Debts Expense only when a specific account is written off and can misstate matching.

After accruals and deferrals, two more adjustments dominate worksheets: depreciation of property, plant, and equipment (PPE) and bad debts related to trade receivables. Both appear in TR-aligned practical projects and in written items that test whether you can compute amounts and choose the correct accounts.

Straight-Line Depreciation for PPE

Depreciation systematically allocates the depreciable amount of a long-lived tangible asset to expense over its useful life. NC III bookkeepers are expected to apply the straight-line method when the case provides cost, residual (salvage) value, and useful life.

$\text{Annual depreciation} = \frac{\text{Cost} - \text{Residual value}}{\text{Useful life in years}}$

For a partial year, multiply annual depreciation by months in service ÷ 12 (unless the problem instructs a full-year policy).

Why use Accumulated Depreciation?

Credit Accumulated Depreciation, a contra-asset, rather than crediting the Equipment account directly. Cost stays visible; net book value = Cost − Accumulated Depreciation. That presentation matches common Philippine worksheet and balance sheet layouts used in assessment centers.

Standard adjusting entry:

Worked Example 1 — Delivery van

On 1 January 2026, Mindanao Trading buys a delivery van:

Annual depreciation = (₱780,000 − ₱60,000) ÷ 5 = ₱144,000.

31 December 2026:

Net book value at year-end = ₱780,000 − ₱144,000 = ₱636,000.

Worked Example 2 — Mid-year acquisition

Office equipment purchased 1 April 2026 for ₱120,000; residual ₱12,000; life 4 years.

Annual depreciation = (₱120,000 − ₱12,000) ÷ 4 = ₱27,000.
2026 depreciation for 9 months = ₱27,000 × 9/12 = ₱20,250.

Depreciation facts table

Bad Debts — Allowance Method vs Direct Write-Off

Credit sales create Accounts Receivable. Some customers will not pay. Matching under accrual thinking says the estimated uncollectible portion related to this period’s credit sales (or to ending receivables) should hit expense in this period—not only when a specific account dies years later.

Allowance method (bookkeeper focus)

1. Estimate uncollectibles at period-end (percent of credit sales, or percent/aging of receivables—use the method given in the problem).
2. Adjusting entry: Debit Bad Debts Expense; credit Allowance for Doubtful Accounts (contra-asset to AR).
3. Later write-off of a specific customer: Debit Allowance for Doubtful Accounts; credit Accounts Receivable (and the subsidiary ledger). No expense at write-off if already allowed for.
4. Recovery (if previously written off): reinstate receivable against allowance (or per firm procedure), then record cash collection.

Direct write-off method (awareness)

When a specific account is confirmed uncollectible: Debit Bad Debts Expense; credit Accounts Receivable. No allowance account. Simple, but it can recognize expense in a later period than the related sale—weaker matching. Bookkeepers should recognize it when a problem explicitly says the firm uses direct write-off, and should not invent an allowance entry in that case.

Comparison Table

Worked Example 3 — Allowance based on credit sales

Iloilo Trading’s 2026 credit sales = ₱2,500,000. Policy: estimate bad debts at 2% of credit sales. Unadjusted allowance credit balance = ₱3,000.

Required Bad Debts Expense = ₱2,500,000 × 2% = ₱50,000 (percent-of-sales approach typically ignores existing allowance when measuring expense).

Ending allowance = ₱3,000 + ₱50,000 = ₱53,000.

Worked Example 4 — Allowance based on ending receivables (aging)

Ending AR = ₱400,000. Aging requires allowance balance of ₱28,000. Unadjusted allowance credit balance = ₱5,000.

Expense to record = ₱28,000 − ₱5,000 = ₱23,000.

If the allowance had an unadjusted debit balance of ₱2,000 (from write-offs exceeding prior estimate), expense would be ₱28,000 + ₱2,000 = ₱30,000 to reach a ₱28,000 credit target.

Worked Example 5 — Write-off and direct write-off contrast

Customer Cruz, ₱12,000, confirmed uncollectible.

Allowance method write-off:

Direct write-off:

Net realizable value of receivables under allowance method = AR − Allowance. Assessors may ask for that figure on the balance sheet section of the worksheet.

Posting and Statement Presentation

Post depreciation and bad-debt adjusting entries to the general ledger before extracting the adjusted trial balance. PPE cost accounts remain at historical cost; only the contra accounts and expenses change at year-end for routine depreciation.

Common Errors

1. Crediting Equipment instead of Accumulated Depreciation.
2. Forgetting to subtract residual value.
3. Taking a full year of depreciation for an April purchase when months matter.
4. Debiting Bad Debts Expense again on allowance-method write-off.
5. Ignoring an existing allowance balance when the problem uses the aging / target balance approach.

Bridge

With accruals, deferrals, depreciation, and bad debts journalized and posted, every permanent and temporary account needed for reporting should be up to date. Section 7.4 converts those ledger balances into the adjusted trial balance and bridges into the worksheet and financial statements (Chapter 8).