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Contra Account: Definition & Examples

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Instructor: Ellie Funke

Ellie has a Masters in Health Administration and a Masters in Business Administration.

In accounting, a contra account is where the adjustments and transactions with contrasting effects on the parent account are recorded. Learn more about the definition of a contra account and the concept of accounting to the contrary, and explore examples of such an account and its impacts on a business's bottom line. Updated: 10/15/2021

Definition Of a Contra Account?

Accounting is how we tell a story about an economic event or financial transaction, such as a purchase or a withdrawal of money, for example. Periodic financial statements report the impact of the story and are used by leaders of a firm or industry to analyze performance, plan, and respond.

A contra account is where we record events that are contrary to a general ledger parent account, also called a relating account. Contra accounts allow us to report the true value of a firm's assets. The balance of the contra account will offset its parent account while still preserving the value of the transactions recognized in the relating account.

To report the real value of the financial statement, you will need to record the amount you can reasonably estimate that will probably effect the financial statement classification. But how does all this actually play out in the real world? Let's look at an example now.

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  • 0:00 Definition Of A Contra Account
  • 1:00 How And Why Contra…
  • 1:45 Accounting For The Contrary
  • 2:25 Example Of The Journal…
  • 5:15 Lesson Summary
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How and Why Contra Accounts Are Used

The story may start like this: imagine you are a doctor who has your own practice. Today, you treated seven different patients for sprains. That story does not change even if you expect you will not be paid for two of those patients. You still treated seven, whether you were paid immediately or not. The transactions are recognized and recorded in gross revenue and accounts receivable by the billing office, as the amount earned and not yet paid.

However, if the billing office stopped there, you would overstate your assets and net income. You must also report the amount that you can reasonably expect will not be paid, if it is estimable and probable. You could simply adjust the parent account...but then you are missing an essential part of the story -- how many patients were actually treated today for a sprain.

Accounting for the Contrary

So do we debit or do we credit an entry to the contra account? Some accountants will keep a reference handy to know if the debit increases or the credit increases an account. The normal balance of a contra account, and the debit or credit, will be the opposite of the entry and normal balance in the parent account.

Since the entry for cash sales is recorded as a credit in a revenue account, then a return on sales will be recorded as a debit in the revenue contra account, Return on Sales or Sales Returns and Allowances. Although you may be familiar with the normal balance requirements of each classification, a contra account will have the opposite requirement.

Example of the Journal Entry and Impact

The following example will show how the contra accounts are used for returning furniture purchased at Homes Inc.:

The Johnson family is expecting visitors for the holidays and will need to furnish the spare bedroom. They find a nice set at Homes Inc. that includes a queen size bed, dresser, nightstand, and luggage rack. They want to take advantage of the interest free year of credit, so on December 5th they open a store account for the entire balance of $7,500 and make arrangements for delivery of the queen size bedroom set.

The furniture is delivered on December 12th and, as the technicians are setting it up, they realize there is not enough space in the bedroom for the entire set with the queen bed. The Jackson's go back to the store with the $3,400 queen bed to exchange for a full size at a price of $1,900. The difference in the price, $1,500, is the amount for return on sale.

The purchase of the queen set and the exchange are posted in the general journal in Figure 1:

Journal Entries - Homes, Innc

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Contra Account: Definition & Examples Quiz

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