Doubtful debts are those receivables which might become bad debts at some point in future. In other words, Doubtful debt can be defined as debt that are doubtful in recovery.
By analyzing the past trend in accounting, a business can determine the approximate percentage that becomes uncollectible yearly from the total credit allowed to buyers. This amount estimated is kept aside from the profits.
Therefore, provision for bad and doubtful debt are the provision made out of profits for doubtful debt.
JOURNAL ENTRY TO CREATE PROVISION FOR DOUBTFUL DEBTS
Profit & Loss A/C - Debit
To Provision for Doubtful Debts - Credit
It is charged against the Profit of the current year.
Provision for doubtful debts is a liability for the business and it appears on the liability side of a balance sheet. Every year the amount of provision for doubtful debt gets changed due to the provision made in the current year. Bad debts for the current year are to be set off, and an extra amount of provision is to be added.
When certain bad debts are to be written off and a provision for doubtful debts is to be made, the amount should be first debited against the existing balance of provision and the remaining balance in the account should be brought up to the required figure.
This can be easily understood as;
The calculation in the case where bad debts occurring in the following year have to be adjusted and an additional amount of provision is to be made, the calculation should be done in the following sequence:
Bad debts (Add) New provision ( Less) Old Provision