Under the allowance method, what effect does recording an allowance have on net accounts receivable?

• A. Increases net accounts receivable.
• B. Has no effect on net accounts receivable.
• C. Converts to a liability.
• D. Reduces net accounts receivable.

Answer: (D)

Under the allowance method, you estimate uncollectible accounts and set up a contra-asset called Allowance for Doubtful Accounts. Net accounts receivable equals gross accounts receivable minus this allowance. When you record the allowance, you increase the contra-asset, which reduces the net amount of receivables you expect to collect. So net accounts receivable decreases. (The typical entry is Debit Bad Debt Expense and Credit Allowance for Doubtful Accounts.)