How to record bad debts and bad debts recovered

Adjustments at the Balance Date and Preparation of Sole Proprietorship Financial Statements

What you need

• The Accounts Receivable (debtors) record showing the balance and name of each credit customer.
• Evidence that the debt cannot be collected, such as a bankruptcy notice, a statement of insolvency, or notice that the customer's business has closed.
• Knowledge of double entry (debit and credit) and the General Journal.
• A cash or bank balance in which to record the receipt when a debt is recovered.

Step by step

1. 1

   Identify the debt that cannot be collected

   Review Perniagaan Setia's Accounts Receivable list. On 30 June 2024, the credit customer En. Karim, who owes RM800, is confirmed bankrupt with no hope of payment. This debt is classified as a bad debt because it can no longer be collected.

2. 2

   Record the bad debt write-off journal

   Open the Bad Debts account and clear the debtor's balance. Entry: Debit Bad Debts RM800; Credit Accounts Receivable (En. Karim) RM800. This transfers RM800 from the debtor's account to the bad debts expense account, so En. Karim's balance becomes zero.

3. 3

   Transfer the bad debt to the Income Statement

   At the end of the accounting period, close the Bad Debts account by transferring its balance to the Income Statement: Debit Income Statement RM800; Credit Bad Debts RM800. In the Income Statement, the RM800 is shown as an expense that reduces net profit.

4. 4

   Reinstate the debtor when the debt is recovered

   On 15 March 2025, En. Karim's next of kin repays RM500 of the debt that had been written off. First, reinstate the debtor: Debit Accounts Receivable (En. Karim) RM500; Credit Bad Debts Recovered RM500. This recognises income because money once treated as lost is now received again.

5. 5

   Record the receipt of money

   Record the money received from En. Karim: Debit Bank RM500; Credit Accounts Receivable (En. Karim) RM500. The debtor's balance returns to zero and RM500 goes into the bank.

6. 6

   Transfer the bad debt recovered to the Income Statement

   Close the Bad Debts Recovered account by transferring its balance to the Income Statement: Debit Bad Debts Recovered RM500; Credit Income Statement RM500. In the Income Statement, the RM500 is shown as income (other income) that increases net profit.

7. 7

   Show the effect on the financial statements

   In the write-off year, Bad Debts RM800 is an expense in the Income Statement and Accounts Receivable falls by RM800 in the Statement of Financial Position. In the recovery year, Bad Debts Recovered RM500 is income in the Income Statement and Bank rises by RM500 in current assets. Note that bad debts and bad debts recovered are not netted off against each other; one is an expense, one is income, and they are reported separately.

Second example

Kedai Harmoni has a credit customer Puan Aminah who owes RM1,200. On 31 December 2024, Puan Aminah is confirmed to have absconded and her debt is written off: Debit Bad Debts RM1,200; Credit Accounts Receivable (Puan Aminah) RM1,200. This amount is then transferred to the Income Statement as an expense: Debit Income Statement RM1,200; Credit Bad Debts RM1,200.

On 20 April 2025, Puan Aminah returns and settles the whole RM1,200. Kedai Harmoni chooses the direct method without reinstating the debtor: Debit Bank RM1,200; Credit Bad Debts Recovered RM1,200. The bad debts recovered balance is then transferred to the Income Statement as income: Debit Bad Debts Recovered RM1,200; Credit Income Statement RM1,200. The final effect on net profit is the same under either method (reinstating the debtor or the direct method), because bad debts recovered still increase profit.

Common mistakes

Related chapter: Adjustments at the Balance Date and Preparation of Sole Proprietorship Financial Statements →

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