Understanding Contra Accounts in Financial Management

If a customer returns a product, the ‘Sales Returns’ contra revenue account lowers the total sales revenue, reflecting the true income. Contra asset examples like ‘Accumulated Depreciation’ reduce the value of fixed assets, showing their worth after usage over time. By reporting contra asset accounts on the balance sheet, users of financial statements can learn more about the assets of a company. Contra asset accounts allow users to see how much of an asset was written off, its remaining useful life, and the value of the asset.

Straight-Line Depreciation

It is also not a liability because it does not represent an obligation to pay a third party. It is a contra-asset account however, so it appears on the balance sheet in the asset section. A contra asset is used to offset or reduce the balance of the corresponding asset account in the balance sheet. Reducing or offsetting the gross value of the asset with the corresponding contra asset will give us the net value of the asset. In the above example, the debit to the contra liability account of $100 lets the company recognize that the bond was sold at a discount.

How to Calculate Straight Line Depreciation

Far less common is the obsolete inventory reserve, which reduces the overall inventory value on the balance sheet. This contra account holds a reserve, similar to the allowance for doubtful accounts. For each debit against contra asset account examples the inventory account, there will be a corresponding credit against the obsolete inventory contra account.

2. Short-Term Portion of Long-Term Debt Liability Contra

Contra accounts are usually linked to specific accounts on the balance sheet and are reported as subtractions from these accounts. In other words, contra accounts are used to reduce normal accounts on the balance sheet. By the end AI in Accounting of the first-year machinery, the balance will be $100,000, and accumulated depreciation will show $20,000.

• They are also helpful for keeping the books balanced and creating a clear trail of financial breadcrumbs for historical review and reporting.
• Over time, these assets lose value due to wear and tear, and the accumulated depreciation account records this decline in value.
• When a company repurchases shares, it increases the fractional ownership of all remaining shareholders.
• This contra-asset account reduces the accounts receivable balance on the balance sheet to its net realizable value.
• In general, the use of contra accounts helps to provide a more accurate picture of a company’s financial position and performance by showing the net revenue, net sales, or net balance of an account.
• However, it’s important to keep in mind that you can create any contra account you want to more clearly describe your business — this is not an exhaustive or definitive list.
• Stepping up your contra account management game is made easier with a host of tools and resources at your fingertips.

By showing the “used up” or uncollectible portion of an asset, they provide a clearer picture of a company’s financial position. Contra asset accounts help ensure financial statements are accurate balance sheet and not overly optimistic. For example, without an allowance for doubtful accounts, a business might show a high accounts receivable balance even if it knows some customers won’t pay. Well, contra asset accounts give us a clearer picture of the real value of assets. Treasury stock is a contra equity account that is used to offset the balance of the common stock account.

Contra Accounts: Final Thoughts

By doing so, they can bring their asset accounts to a more accurate position. The most prominent of these include allowing companies to present a more accurate picture of their assets. After each accounting period, the company records a depreciation expense of the asset. Allowance for receivables is an account that companies maintain to record possible bad debts. The accumulated depreciation account plays a vital role in representing the accurate value of an asset in the financial statements. For example, if an account has a debit balance, a contra account will have a credit balance.

Calculating and Recording Pension Expenses in Business

It usually nets off against related accounts and provides an opposite effect to the balance. Therefore, contra accounts are the reverse accounts that decrease a specific account’s balance. The accumulated depreciation is listed at $22,631 million in 2023 and $21,137 million in 2022. These figures have a negative balance and reduce the total PP&E to arrive at the net PP&E figure. In double entry bookkeeping terms, a contra expense account refers to an account which is offset against an expense account.