On December 31, 2014, Carme Company had significant amounts of accounts receivables as a result of credit sales to its customers. Carme uses the allowance method based on credit sales to estimate bad debts. Based on experience, 1 percent of credit sales normally will not be collected. This pattern is expected to continue.
a. Discuss the rationale for using the allowance method based on credit sales to estimate bad debts. Contrast this method with the allowance method based on the balance in the trade receivables accounts.
b. How should Carme Company report the allowance for bad debts account on its balance sheet at December 31, 2014? Also, describe the alternatives, if any, for presentation of bad debt expense in Carme’s 2014 income statement.