Key Concepts
1 · The impairment loss is the change in the allowance.
Any increase or decrease in the allowance from one year to the next is recorded as an Impairment loss on trade receivables, which is an expense.
| Change in allowance | Debit | Credit |
|---|---|---|
| Increase in allowance | Impairment loss on trade receivables (+expense) | Allowance for impairment of trade receivables (−asset) |
| Decrease in allowance | Allowance for impairment of trade receivables (+asset) | Impairment loss on trade receivables (−expense) |
A decrease is called a reversal: the business is undoing part of an impairment loss it recorded in an earlier year, because the allowance no longer needs to be as big. It lowers the expense, which in turn raises profit.
This follows the matching theory, which states that expenses incurred (the impairment loss on trade receivables) should be matched against income earned in the same financial period to determine the profit for the period. In other words, the sales were made this year, so the loss the business expects from those sales is recognised in the same year — even though no customer has actually failed to pay yet.
Don't confuse this with Chapter 9.The impairment loss on inventory writes inventory down to its net realisable value. The impairment loss on trade receivables is the estimated loss from customers who may not pay. Always write the full name so the two are not mixed up.
2 · Writing off a confirmed uncollectible debt.
Estimated loss vs actual loss.The allowance is an estimated loss — the business's best guess of how much it might not collect. A write-off is an actual loss — a specific debt the business now knows for certain it will never collect.
When a debt is confirmed uncollectible (e.g. the customer goes bankrupt), the business removes it directly from trade receivables, reducing the allowance it had set aside:
Dr Allowance for impairment of trade receivables / Cr Trade receivables
There is no new expense when a debt is written off. The business already recorded the expected loss as an impairment loss when it set up the allowance, so writing the debt off simply uses up the allowance it had set aside — it does not record the loss a second time.
Partial write-off. Sometimes a customer can pay back only part of what it owes, and the rest cannot be recovered. The two parts are recorded separately:
- For the part the customer pays: Dr Cash at bank (or Cash in hand) / Cr Trade receivables
- For the part that is uncollectible: Dr Allowance for impairment of trade receivables / Cr Trade receivables (this part is written off)
3 · Adjusting the allowance at year end.
- Check for an existing allowance balance.
- If there is an existing balance:
- Calculate the new required allowance (Estimated % uncollectible × Ending Trade receivables balance).
- Find the difference: new required allowance − current allowance balance (after any write-offs).
- Record that difference as the adjustment — an increase or a decrease.
- If there is no existing balance: record the full new required allowance as an increase.
Quick reference:
| Account | Account type | Reported in | How it is calculated |
|---|---|---|---|
| Allowance for impairment of trade receivables | Contra-asset (normally a credit balance) | Statement of Financial Position | Estimated % × Ending Trade receivables balance |
| Impairment loss on trade receivables | Expense (normally a debit balance) | Statement of Financial Performance | New required allowance − current allowance (after any write-offs) |
Matching: record the loss in the same year as the sale. Compare the new required allowance with what is already there (after write-offs). Allowance goes up → record an expense (impairment loss on trade receivables). Allowance goes down → reverse the expense (a reversal of impairment loss on trade receivables).
- 10 Apr 20X8 — A credit customer went bankrupt and the business wrote off the debt owed, $1,200.
- 31 Dec 20X8 — The trade receivables balance was $66,000. The allowance is to be 5% of trade receivables.
A confirmed uncollectible debt reduces both trade receivables and the allowance.
| Date | Particulars | Dr ($) | Cr ($) |
|---|---|---|---|
| 20X8 | |||
| 10 Apr | Allowance for impairment of trade receivables | 1,200 | |
| Trade receivables | 1,200 |
New required allowance = 5% × $66,000 = $3,300
| Item | Amount ($) |
|---|---|
| Opening allowance (1 Jan) | 2,500 |
| Less: Write-off | (1,200) |
| Allowance before adjustment | 1,300 |
| Add: Allowance adjustment | 2,000 |
| Closing allowance (31 Dec) | 3,300 |
Adjustment = $3,300 − $1,300 = $2,000 increase.
| Date | Particulars | Dr ($) | Cr ($) |
|---|---|---|---|
| 20X8 | |||
| 31 Dec | Impairment loss on trade receivables | 2,000 | |
| Allowance for impairment of trade receivables | 2,000 |
Statement of Financial Performance for the year ended 31 December 20X8 (extract)
| $ | |
|---|---|
| Less: Other expenses | |
| Impairment loss on trade receivables | 2,000 |
Statement of Financial Position as at 31 December 20X8 (extract)
| $ | $ | |
|---|---|---|
| Current assets | ||
| Trade receivables | 66,000 | |
| Less: Allowance for impairment of trade receivables | (3,300) | 62,700 |
New required allowance = 4% × $75,000 = $3,000
| Item | Amount ($) |
|---|---|
| Opening allowance (1 Jan) | 3,300 |
| Less: Write-off | 0 |
| Allowance before adjustment | 3,300 |
| Less: Allowance adjustment | (300) |
| Closing allowance (31 Dec) | 3,000 |
Adjustment = $3,000 − $3,300 = $300 decrease.
| Date | Particulars | Dr ($) | Cr ($) |
|---|---|---|---|
| 20X9 | |||
| 31 Dec | Allowance for impairment of trade receivables | 300 | |
| Impairment loss on trade receivables | 300 |
Because the allowance decreased, the impairment loss is reversed. We rename it Reversal of impairment loss on trade receivables and write the amount in brackets. The brackets are a reminder that this is a deduction against expenses — it lowers total expenses for the year, so it increases profit rather than reducing it.
Statement of Financial Performance for the year ended 31 December 20X9 (extract)
| $ | |
|---|---|
| Less: Other expenses | |
| Reversal of impairment loss on trade receivables | (300) |
Statement of Financial Position as at 31 December 20X9 (extract)
| $ | $ | |
|---|---|---|
| Current assets | ||
| Trade receivables | 75,000 | |
| Less: Allowance for impairment of trade receivables | (3,000) | 72,000 |
Recording the whole new allowance as the expense. When an allowance already exists, only the change — new required allowance minus current allowance balance (after any write-offs) — is the impairment loss, not the full new allowance.
Forgetting to subtract write-offs before adjusting. A write-off reduces the allowance during the year. Work out the balance after the write-off, then compare it with the new required allowance.
Wrong direction when the allowance falls. A decrease in the allowance is a reversal — Dr Allowance for impairment of trade receivables / Cr Impairment loss on trade receivables — shown as a deduction (in brackets) in Other expenses, not as a normal expense.