What is a Contra Account?
Perhaps you have heard of contra account or seen it in your books of accounts. Have you bothered to know what it is and why it is important?
A contra account is simply a general ledger account that you can use to reduce the value of a related account. Note that contra account’s balance is opposite of the related account, and this implies that if you debit a certain amount in the associated account, the contra account credits the amount as well. All the transactions recorded in contra accounts are show in the business’s financial statements under the associated account.
Contra asset account
An asset account normally carries a debit balance and so, the contra asset account that is related to the asset account will carry a credit balance. The most common contra asset accounts are the accumulated depreciation and the allowance for doubtful debts accounts. The allowance for doubtful debts account shows the amount that your business is unable to collect, and therefore, it offsets the accounts receivables. On the other hand, the accumulated depreciation (Also see Impairment versus Depreciation of Fixed Assets) account offsets the business’s fixed assets such as buildings, equipment, and more.
Contra liability account
Discounts on notes payable and discounts on bonds payable are the common contra liability accounts that you are likely to use during accounting. Note that the discount on bonds payable account show the difference between the cash your company receives when it issues a bond and the value of the same bond at maturity. This account lowers the bond value.
On the other hand, notes payable account shows the liability created when your company signs an agreement to borrow a specified amount of money. Your lender might offer you a certain discount if you repay the note early. Note that this discount lowers the total amount for the note.
Contra equity account
This account reduces the outstanding shares indicated on your entity’s balance sheet. Keep in mind that contra equity account is represented by the treasury stocks. Whenever you feel that your company’s shares are undervalued, you can always purchase back the shares. You should record this transaction by debiting the treasury stock account.
The use of a contra account enables a business to continue reporting the gross amount (original amount) and also report the net amount (carrying amount). As a business owner or accountant, learning contra account will help you to effectively report transactions in various financial statements, such as profit and loss, balance sheet and cash flow statement. If you find it too complicate, you can always opt for the easier way by engaging an accounting firm in Johor Bahru and let the professionals sort things out for you.