Allowance For Credit Losses


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.

BREAKING DOWN '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.

  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. Credit Risk

    The risk of loss of principal or loss of a financial reward stemming ...
  4. Bad Debt Expense

    An entry found on a business's income statement that represents ...
  5. Bad Debt Reserve

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

    A claim against a property by a party that is not the owner. ...
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. Economics

    Calculating Days Working Capital

    A company’s days working capital ratio shows how many days it takes to convert working capital into revenue.
  7. Professionals

    Career Advice: Accountant Vs. Controller

    Learn about the differences between controllers and accountants, how the two are related and which is the best career choice for aspiring bookkeepers.
  8. Investing

    What is EBITA?

    EBITA measures a company’s full profitability before reducing it by interest, taxes and amortization considerations, and so is useful for calculating a company’s internal efficiency or profitability ...
  9. Professionals

    What is Cash Basis Accounting?

    Cash basis accounting recognizes revenues and expenses at the time cash is paid or received.
  10. Investing

    A Look at 6 Leading Female Value Investors

    In an industry still largely predominated by men, we look at 6 leading female value investors working today.
  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 >>
  4. Are dividends considered an asset?

    Whether dividends paid on stock are considered an asset depends on which role you play in the investment: the issuing company ... Read Full Answer >>
  5. What is a profit and loss (P&L) statement and why do companies publish them?

    A profit and loss (P&L) statement, or balance sheet, is essentially a snapshot of a company's financial activity for ... Read Full Answer >>
  6. How do I use discounted cash flow (DCF) to value stock?

    Discounted cash flow (DCF) analysis can be a very helpful tool for analysts and investors in equity valuation. It provides ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Gross Profit

    A company's total revenue (equivalent to total sales) minus the cost of goods sold. Gross profit is the profit a company ...
  2. Revenue

    The amount of money that a company actually receives during a specific period, including discounts and deductions for returned ...
  3. Normal Profit

    An economic condition occurring when the difference between a firm’s total revenue and total cost is equal to zero.
  4. Operating Cost

    Expenses associated with the maintenance and administration of a business on a day-to-day basis.
  5. Cost Of Funds

    The interest rate paid by financial institutions for the funds that they deploy in their business. The cost of funds is one ...
  6. Cost Accounting

    A type of accounting process that aims to capture a company's costs of production by assessing the input costs of each step ...
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!