In addition to accounting recognition of charity care adjustments, contrac-tual adjustments, and bad debt expenses during an accounting period, adjust-ing entries for these revenue deductions also are necessary at the end of the period. These entries consist of estimates of charity care adjustments, con-tractual adjustments, and bad debt expenses related to services rendered dur-ing the period and included in the end-of-period accounts receivable.
This estimated portion of accounts receivable likely to prove uncol-lectible in the next accounting period is debited to the revenue deduction accounts and credited to the allowance for uncollectible accounts (account 105). This is done to match gross revenues with related revenue deductions and bad debt expense in the same accounting period. It is the same principle described in Chapter 5 as the matching of revenue and expense.
The allowance for uncollectible accounts is a contra asset account. It is presented in the hospital’s balance sheet as a deduction from accounts receivable in much the same manner that accumulated depreciation is deducted from the hospital’s plant assets. Journal entries relating to allowances for uncollectible accounts are illustrated later in this chapter.
Hoosier Hospital’s December 31, 20X1, trial balance includes account 501, contractual adjustments, which has a debit balance of $29,200. All of these revenue deductions were recorded by the hospital in a series of entries, but the following entry summarizes them:
Contractual adjustments 501 $29,200
Accounts receivables 104 $29,200
Write-off of patients’ accounts to contractual adjustments
Contractual Allowance
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This entry records the contractual adjustments given accounting recognition during 20X1. At December 31, however, how much of the
$96,600 of accounts receivable will prove to be uncollectible by reason of contractual adjustments?
If it is possible to identify the contractual adjustments portion of individ-ual accounts, such amounts should be written off immediately and directly to the contractual adjustments account. This procedure generally is possi-ble in part because the hospital should know the amount of the discount it is contractually obligated to honor and can therefore write the discount off immediately to the contractual adjustments account. This may necessitate an automated contract management system. In cases where the hospital relies on the insurance company to determine the amount of the discount and writes the discount off at time of payment, the hospital may not be col-lecting the full amount due from the insurance company. Would the insur-ance company have a vested interest to underpay the hospital? Sometimes it is not possible to write off the accounts immediately and directly, and so an estimate is made of the percentage of accounts receivable likely to prove uncollectible because of contractual adjustments. Let us assume that only
$20,000 of year-end accounts receivable are subject to contractual adjust-ments and that an estimated 12 percent of these balances probably will be uncollected because of such adjustments. The following is the required December 31, 20X1, adjusting entry:
Contractual adjustments 501 $2,400
Allowance for uncollectible accounts 105 $2,400 Adjustment for estimated portion of
accounts receivable likely to prove uncollectible by reason of contractual adjustments (12% of $20,000)
This entry matches the revenue deduction for contractual adjustments with the related revenues recorded during 20X1.
In 20X2, when $1,900 of 20X1 accounts receivable are found to be uncollectible by reason of contractual adjustments, the following entry is made:
Allowance for uncollectible accounts 105 $1,900
Accounts receivable 104 $1,900
Write-off of a portion of 20X1 accounts receivable against the allowance for uncollectibles
Had the allowance account not been established by the December 31, 20X1, adjusting entry, the 20X2 write-off above would have been made to
Estimating Contractual Adjustments
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revenue deductions (contractual adjustments) of 20X2. This would have pro-duced a mismatching of revenues and revenue deductions.
Recall that Hoosier Hospital’s December 31, 20X1, trial balance includes account 502, charity care adjustments, with a debit balance of $19,400. This indicates that the hospital, in a series of journal entries, gave accounting recognition to $19,400 of charity care rendered during 20X1. In a single summary entry, the following was recorded:
Charity care adjustments 502 $19,400
Accounts receivable 104 $19,400
Write-off of patients’ accounts to charity care
Prior to this, when the services were provided to charity patients, entries were made to record the revenues and establish the accounts receivable.
At year’s end, however, there are $96,600 of accounts receivable. How much of this $96,600 will not be collected because of charity care? If it is possible and practicable to identify specific accounts (or portions of specific accounts) as charity, such accounts (or portions of them) should be written off immediately and directly to the charity care adjustments account. This procedure is frequently feasible because charity care patients should be identified before the time of service for all nonemergent treatments and services. If not, as in the case of emergency patients who have not been identified as charity care or, in the case of ongoing treatment to charity care patients, an estimate generally is made of the percentage of accounts receiv-able likely not to be collected because of being charity care. Assuming this percentage to be 5 percent, the necessary adjusting entry at December 31, 20X1, is recorded as follows:
Charity care adjustments 502 $ 4,830
Allowance for uncollectible accounts 105 $ 4,830 Allowance established for estimated
portion of accounts receivable likely to prove uncollectible because of charity care (5% of $96,600 = $4,830)
This entry matches the charity care revenue deduction with the related revenues recorded during 20X1. The entry also establishes the allowance account so that the accounts receivable will be reported in the December 31, 20X1, balance sheet at net realizable value, or collectible value.
In 20X2, when it is determined that a 20X1 patient account of, say,
$700 is deemed uncollectible by reason of financial indigence, the following entry is made:
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Allowance for uncollectible accounts 105 $ 700
Accounts receivable 104 $ 700
Write-off of 20X1 charity accounts to the allowance for uncollectibles
Had the adjusting entry not been made at the end of 20X1 to estab-lish the allowance account for estimated charity care, the 20X2 write-off would have been debited to the 20X2 charity care (revenue deductions) account. And this would have put the debit to charity care in the wrong year!
The charity care was provided in 20X1, not in 20X2.
A third account, bad debt expense (account 609), appears in the December 31, 20X1, trial balance of Hoosier Hospital. Because this account has no bal-ance, it can be correctly assumed that the hospital has not recognized any bad debts during 20X1. As of December 31, however, the hospital has $96,600 of accounts receivable. How much of these receivables will prove to be uncol-lectible by reason of bad debts?
If it can be determined that specific accounts are bad debts on December 31, those particular accounts should be written off immediately and directly to the bad debts account—in other words, debit bad debts and credit accounts receivable. This procedure, however, often is not feasible, particularly with those accounts that have been on the books only a short time and for which additional collection efforts will be made in the future. Thus, an estimate must be made as to the amount of bad debts likely to arise out of the December 31 accounts receivable.
This estimate may be developed as a percentage of accounts receivable or as a percentage of patient services revenues for the period. It also may be determined through the preparation of a so-called aging schedule for the year-end accounts receivable. These methods of estimating bad debts are described fully in a later chapter. Until we consider them in detail, we will estimate bad debts simply as a percentage of year-end accounts receivable, recognizing that this procedure is not always appropriate.
Let us assume, then, that Hoosier Hospital estimates its bad debts at 10 percent of December 31, 20X1, accounts receivable. The required adjust-ing entry is the followadjust-ing:
Bad debt expense 609 $9,660
Allowance for uncollectible accounts 105 $9,660 Adjustment for estimated portion of
accounts receivable likely to prove uncollectible by reason of bad debt (10% of $96,600 = $9,660)
Bad Debts
Determining Bad Debts
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This entry puts the revenue bad debt expense in the same year in which the related revenues and accounts receivable arose.
In 20X2, when an individual patient’s account of, say, $950 is deemed to be a bad debt and therefore uncollectible, the entry is:
Allowance for uncollectible accounts 105 $ 950
Accounts receivable 104 $ 950
Write-off of a patient’s account deemed to be a bad debt
Had the allowance account not been established at the end of 20X1, the write-off in 20X2 necessarily would have been charged to bad debt expense of 20X2 (the wrong year, in that the related revenues were recog-nized in 20X1).
The assumed December 31, 20X1, adjusting entries for contractual adjust-ments, charity care adjustadjust-ments, and bad debt expense (and its respective allowance) are summarized as follows:
Contractual adjustments 501 $ 2,400
Allowance for uncollectible accounts 105 $ 2,400 Adjustment for estimated amount of
contractual adjustments in year-end accounts receivable
Charity care adjustments 502 4,830
Allowance for uncollectible accounts 105 4,830 Adjustment for estimated charity services
in year-end accounts receivable
Bad debt expense 609 9,660
Allowance for uncollectible accounts 105 9,660 Adjustment for estimated bad debts
in year-end accounts receivable
Although a separate allowance account generally is maintained for each type of revenue deduction and bad debt expense, a single allowance account is used here to reduce the amount of detail.
Taken together, these entries establish a total credit balance of $16,890 ($4,830 + $2,400 + $9,660) in the allowance account. The balance sheet of Hoosier Hospital at December 31, 20X1, therefore, will report the following:
Accounts receivable $96,600
Less allowance for uncollectible accounts 16,890
Accounts receivable, net (of allowance) $ 79,710 Allowance for
Uncollectible Accounts
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The $79,710 figure is the net realizable value of the hospital’s accounts receivable at December 31. It is the amount of the accounts receivable esti-mated to be collectible in cash in the future (early in 20X2). This balance sheet valuation of accounts receivable is a GAAP.