What is a Contra Asset Account? Simple Explanation and Example
Double-entry accounting plays an important role in the way bookkeepers record each and every transaction. Based on this equation, each account in the general ledger has a debit or a credit normal balance, which is used to identify whether an account should be debited or credited to increase its balance.
An exception to the rule would be contra accounts. Contra accounts have opposite to normal account balance. Why? These accounts are created specifically for the reason to be able to decrease the amount reflected in a corresponding account in an indirect way. They can be created for each type of account.
What is a Contra Asset Account?
According to the balance sheet equation, all accounts that fall under the Assets category will normally increase with a debit entry. However, there are cases when a credit entry to reduce this account cannot be made. This is when a contra asset account comes in. What is a contra asset account? In simple words, this is an account with a credit balance that is assigned to a particular asset account with a goal to be used to offset the balance of the last one.
Usage
What is a contra asset account required for in accounting? Bookkeepers use the contra asset account to track reductions to an asset separately from the asset itself. The use of a contra asset account when recording transactions allows a company to report the original amount and also report a reduction so that the net amount will also be reported. This way, the relationship between certain debits and credits can also be easily tracked. A contra asset account is added right after the asset account it is used to reduce, but before net assets on the Balance sheet.
It is important to show these details instead of just recording a net amount because a company can better analyze its financial activity and make changes accordingly. For example, a contra account is set up with an asset account to hold the accumulated depreciation over the years the asset is held. This account is known as Accumulated depreciation. A similar account can be found in the bookkeeping records if the business sells its products or provides services on a credit. Allowance for doubtful accounts allows management to account for a portion of the debt they assume will be uncollectible in their analysis and business plans.