What Are Contra Accounts? Definition, Types, and Examples

Depreciation is calculated using methods such as straight-line or declining balance to allocate an asset’s cost over its useful life. For instance, if a company purchases equipment for $100,000 with a useful life of 10 years, straight-line depreciation results in an annual expense of $10,000. The accumulated depreciation account increases yearly, reducing the asset’s book value.

This general structure can be applied across all contra types, so if the parent account has a credit, the contra account will have a debit.
For example, accumulated depreciation will go along with related assets.
For instance, if a company issues $1,000,000 in bonds at a 5% discount, the discount of $50,000 lowers the carrying amount to $950,000.
The purpose of a contra asset account is to record adjustments, allowances, or depreciation related to a specific asset, resulting in a more accurate representation of the net value of that asset on the financial statements.
A contra liability account is not classified as a liability, since it does not represent a future obligation.

If every single buyer had taken advantage of the early payment discount, the company would have provided roughly $10 thousand in discounts during that same timeframe. In reality, the actual number of company discounts came closer to $5 thousand. Any company that owns intangible assets such as software, patents, etc., will maintain an accumulated amortization account. Similar to depreciation, this account plays a significant role in representing the book value of a company’s assets.

The use of Allowance for Doubtful Accounts allows us to see in Accounts Receivable the total amount that the company has a right to collect from its credit customers. The credit balance in the account Allowance for Doubtful Accounts tells us how much contra-asset of the debit balance in Accounts Receivable is unlikely to be collected. Bookkeepers use the contra asset account to track reductions to an asset separately from the asset itself.

He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries. He has been the CFO or controller of both small and medium sized companies and has run small businesses of his own. He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a degree from Loughborough University.

#5 – Allowances for Doubtful Debts

A contra liability is a general ledger account with a debit balance that reduces the normal credit balance of a standard liability account to present the net value on a balance sheet. Examples of contra liabilities are Discounts on Bonds and Notes Payable and Short-Term Portion of Long-Term Debt. The two most common examples of contra asset accounts are the accumulated depreciation contra account, and the allowance for doubtful debts contra account.

Accumulated amortization is an account similar to accumulated depreciation. This account only relates to a company’s intangible assets rather than tangible. Whenever an organization buys an asset and depreciates it over the asset’s useful economic life, the reduction in value accumulates over the year, which is called accumulated depreciation.

Reserve for Obsolete Inventory

By the end of 2nd-year, the machinery balance will still be $100,000, and accumulated depreciation will show $40,000. The netbook value of the machinery by the end of the first year will be $80,000 ($100,000-$20,000) and $60,000 ($100,000-$40,000) by the end of the second year. This method helps a third person identify what the book value was at the time of purchase and the remaining value of an asset. If we show $60,000 as an asset in the third year, it will be challenging to understand whether $60,000 is all new purchases or the remaining value of an asset. This account helps all the stakeholders understand the financial numbers accurately.

Liability Accounts

By recording reductions in a separate account, companies can get better insights into their actual accounts. Therefore, these companies must maintain an obsolete inventory reserve account to net off any unusable stock from the account. This requirement also comes from the accounting standard for inventories.

The accumulated depreciation account appears on the balance sheet and reduces the gross amount of fixed assets.
It is only prudent to show the reduction or reserve in a separate account, and at any point, it gives us the netbook value explaining what the actual cost was and how much of that has been depreciated.
So, in this case, accumulated depreciation is a contra asset account related to plant & equipment.
Because contra asset accounts are used so frequently, it’s worth spending a little bit more time on them here, including common subtypes.

This account is paired with and offsets another asset account, so that a net balance is reported on the balance sheet. Overall, contra accounts are offsetting balances that are the opposite of specific accounts. There are several examples of contra accounts, including accumulated depreciation, accumulated depletion, accumulated amortization, allowance for receivables, etc. These are all examples of contra-asset accounts, which are the prevalent type of contra accounts.

There is almost always a story behind data; a clarification or historical insight that changes the meaning behind raw figures. In a report, layering on that additional context can be easy, but in a general ledger, you have few options for conveying nuance and subtlety. Namely, within a ledger, each account is intended to contain transactions and balances of a similar type only.

Examples of Contra Accounts

Nowadays, with the development of a computerized accounting system, it is easy and quick to prepare the contra asset accounts as the system does all the calculations, and hardly anything is pushed manually. However, an accountant or person in charge must ensure that any change in the value of the assets due to revaluation or impairment must be considered. Also, with IFRS (International Financial Reporting Standards) asking to report it in a particular way, the accountants must be updated with recent changes to how the contra assets account should appear in the books of accounts. Contra Liability Account – A contra liability account is a liability that carries a debit balance and decreases other liabilities on the balance sheet. Allowance for doubtful accounts (ADA) is a contra asset account used to create an allowance for customers who are not expected to pay the money owed for purchased goods or services. The allowance for doubtful accounts appears on the balance sheet and reduces the amount of receivables.

Asset Contra Account

The discount on bonds payable is a notable example, reducing the face value of bonds issued below their market value. For instance, if a company issues $1,000,000 in bonds at a 5% discount, the discount of $50,000 lowers the carrying amount to $950,000. This adjustment impacts interest expense calculations and the effective interest rate, helping stakeholders evaluate debt management and cost of capital strategies.

Instead, the existence of contra-asset accounts for companies will differ based on a company’s requirements. A contra-asset account is an account that opposes the balances of other asset accounts. As mentioned, a company will usually have debit balances in its asset accounts. By the end of the first-year machinery, the balance will be $100,000, and accumulated depreciation will show $20,000.

A contra account carries a balance that is opposite to the normal balance of its related main account. Accounts Receivable is an asset account that represents the amount of money due to a business for goods or services that have been delivered or used but not yet paid for by customers. Contra asset accounts also provide a clear picture of the companies’ accumulation of assets. Similarly, these accounts can also be essential in various calculations.

So, an organization looking for a robust accounting process must move to this reporting for better understanding. Some of the most common contra assets include accumulated depreciation, allowance for doubtful accounts, and reserve for obsolete inventory. These examples illustrate how contra asset accounts are used in financial accounting to provide more accurate and detailed information about the related asset accounts, allowing for better financial analysis and decision-making. Every contra asset account on a company’s accounting records will also have a pairing account. For example, accumulated depreciation will go along with related assets. Contra liability accounts adjust the carrying value of liabilities, offering a clear view of a company’s financial obligations.

A contra account is an account that companies use to reduce the value of a related account. It usually nets off against related accounts and provides an opposite effect to the balance. Therefore, contra accounts are the reverse accounts that decrease a specific account’s balance. In the financial statements the asset a/c would be offset against the contra asset a/c to show the net balance. Contra asset account is an important element of the balance sheet or the books of accounts. This is because it tallies two respective debit-credit entry pairs, thereby figuring out the net balance of the asset account.

Most accountants choose to record the depreciation over the useful life of an item in the accumulated depreciation contra asset account, which is a credit account. The balance sheet would show the piece of equipment at its historical cost, then subtract the accumulated depreciation to reflect the accurate value of the asset. This process continues each year until the equipment is fully depreciated. These less-frequent contra accounts come into play when you need to account for changes in the outstanding liabilities for your business.