Allowance For Credit Losses

AAA

DEFINITION of 'Allowance For Credit Losses'

An estimation of the debt that a company is unlikely to recover. The allowance for credit losses is from the perspective of the selling company that extended credit to its buyers. A certain amount of credit losses can be anticipated, and these expected losses are included as a contra asset and as an expense in the company's balance sheet and income statement respectively.


The line item is usually "Allowance For Credit Losses" or "Allowance For Doubtful Accounts" or a "Bad Debt Expense" entry. A company can use statistical modeling such as default probability to determine its expected losses to delinquent and bad debt. The statistical calculations can utilize historical data from the institution as well as from the industry as a whole.

INVESTOPEDIA EXPLAINS 'Allowance For Credit Losses'

A certain percentage of loans are expected to become delinquent. The allowance for credit losses is an accounting technique that allows companies to take these anticipated losses into consideration in its financial statements to limit overstatement of potential income. Companies regularly make changes to the allowance for credit losses entry to correlate with the current statistical modeling allowances. Companies may have a bad debt reserve to offset these credit losses.

RELATED TERMS
  1. Credit Rating

    An assessment of the credit worthiness of a borrower in general ...
  2. Default Probability

    The degree of likelihood that the borrower of a loan or debt ...
  3. Bad Debt Expense

    An entry found on a business's income statement that represents ...
  4. Credit Risk

    The risk of loss of principal or loss of a financial reward stemming ...
  5. Bad Debt Reserve

    An account set aside by a company to account for and offset losses ...
  6. Convention Statement

    A document filed by an insurance or reinsurance company that ...
RELATED FAQS
  1. What's the difference between accrued expenses and provisions?

    In accounting, accrued expenses and provisions are separated by their respective degrees of certainty. All accrued expenses ... Read Full Answer >>
  2. Who bears the risk of bad debts in securitization?

    Bad debts arise when borrowers default on their loans. This is one of the primary risks associated with securitized assets, ... Read Full Answer >>
  3. What happens if a company doesn't think it will collect on some of its receivables?

    The accounts receivable account, or receivables for short, is created when a company extends credit to a customer based on ... Read Full Answer >>
Related Articles
  1. Fundamental Analysis

    How To Decode A Company's Earnings Reports

    Read between the lines to decipher a company's true financial condition.
  2. Markets

    A Clear Look At EBITDA

    This measure has its benefits, but it can also present earnings through rose-colored glasses.
  3. Investing Basics

    How To Evaluate A Company's Balance Sheet

    Asset performance shows how what a company owes and owns affects its investment quality.
  4. Options & Futures

    Core Earnings Strip Away "Creative" Accounting

    This metric is an attempt to counteract creative accounting, but it poses its own set of challenges.
  5. Retirement

    The Bright Side Of The Credit Crisis

    Find out how this tough economic period can be a learning experience for all.
  6. Charts & Patterns

    Why These Could Be 2015's 10 Best Biotech Stocks

    A quick look at a 10 biotech companies that are poised to deliver for shareholders in 2015.
  7. Mutual Funds & ETFs

    How To Build A Bond Ladder?

    Bond laddering is a strategy used when building a portfolio: an investor can spread out interest rate risk and create a stream of cash flows for income.
  8. Charts & Patterns

    Why These Could Be 2015's 10-Best Media Stocks

    A list of top-tier and speculative media stocks for 2015.
  9. Investing

    Why Is The Nasdaq 5,000 Different This Time?

    The Nasdaq this week has slipped below the 5,000 high-water mark it reached last week. The last time it hit above 5,000 was in March 2000.
  10. Charts & Patterns

    Why These Could Be 2015's 10-Best Pharma Stocks

    The pharmaceutical stocks covered here have significant potential going forward. Here's why.

You May Also Like

Hot Definitions
  1. Price-To-Sales Ratio - PSR

    A valuation ratio that compares a company’s stock price to its revenues. The price-to-sales ratio is an indicator of the ...
  2. Hurdle Rate

    The minimum rate of return on a project or investment required by a manager or investor. In order to compensate for risk, ...
  3. Market Value

    The price an asset would fetch in the marketplace. Market value is also commonly used to refer to the market capitalization ...
  4. Preference Shares

    Company stock with dividends that are paid to shareholders before common stock dividends are paid out. In the event of a ...
  5. Accrued Interest

    1. A term used to describe an accrual accounting method when interest that is either payable or receivable has been recognized, ...
  6. Absorption Costing

    A managerial accounting cost method of expensing all costs associated with manufacturing a particular product. Absorption ...
Trading Center