In accounting, nature of all five (5) types of accounts is predefined. These accounts are either debit or credit in nature or we can say that their normal balance is either debit or credit. Accordingly, if a transaction to be recorded involves an account whose normal balance is debit, then a debit entry will be used to increase the balance and a credit entry will be used to reduce the balance of that account. Similarly, if a transaction to be recorded involves an account whose normal balance is credit, then a credit entry will be used to increase the balance and a debit entry will be used to reduce the balance of that account.
Let’s take a look at the nature of all five types of accounts and then we’ll go through some examples.
| Normal balance is debit | Normal balance is credit |
| Assets | Equity |
| Expenses | Liabilities |
| Income or revenues |
For instance, cash, bank balance, property and equipment etc. are all assets and their normal balance is debit.
If cash is received by making a sale of goods, it is recorded as a debit entry in cash account (on left side of the cash T-account). Sale of goods is an income and its normal balance is credit. To record income, a credit entry is made in sale of goods account (on right side of the sale of goods T-account).
Contra account
A contra account is an account which is always associated to a normal account but has opposite nature. While reporting the balance of a normal account which has a contra account associated with it, the contra account’s balance is also accounted for and net balance is reported
Reported balance = Normal account balance – contra account balance
As the name suggests, contra account’s nature is opposite to its associated normal account. For example, Fixed assets account is an asset account whose nature or normal balance is debit. Accumulated depreciation is a contra account associated with fixed assets and its nature is credit. All contra accounts behave similarly, if their associated normal account is debit in nature, their balance will be credit and vice versa.
You might think that why contra accounts are used by accountants. If the balance of a normal account needs to be reduced, why not directly record the entries in the main normal account. Let’s explain the reason for using contra accounts through an example.
Provision for doubtful debts is a contra account associated with accounts receivables and when the recoverability of a receivable is considered doubtful, accounts receivable balance is reduced by making an entry in provision for doubtful debts account. For instance, at a particular date, an entity has gross receivables of $10,000 out of which it considers that $800 may not be recovered due to various reasons. For reporting purposes, balance of receivables will be $9,200 (10,000 – 800) which is considered recoverable. However, by keeping separate accounts for gross receivables and doubtful receivables, the entity has control over useful information and can follow-up with its customers who are not paying them. If separate accounts are not maintained and provision for doubtful debts is recorded directly in accounts receivables, then the entity would lose track of this useful information of doubtful debts. Similarly, purpose of all contra accounts is to keep track of such useful information which is beneficial for the entity for analysis purposes.
Common contra accounts
Let’s take a look at some of the common contra accounts and their associated normal accounts.
- Accumulated depreciation and fixed assets
it is a contra asset account having credit balance as the normal balance of fixed assets is debit.
- Provision for doubtful debts and accounts receivable
it is a contra asset account having credit balance as the normal balance of accounts receivable is debit.
- Owner’s drawings account and owner’s equity
it is a contra equity account having debit balance as the normal balance of equity is credit.
- Discount on bonds payable and bonds payable
it is a contra liability account having debit balance as the normal balance of bonds payable is credit.
- Sales discount and sales revenue
it is a contra revenue account having debit balance as the normal balance of revenue is credit.
- Sales return and sales revenue
it is a contra revenue account having debit balance as the normal balance of revenue is credit.