Accounting and Finance?

What is the argument for using an allowance method based on credit sales to estimate bad debts?

The only two accepted methods in the US are the "sales method" and the "allowance method".

The "sales method" is based on annual sales and the people who like it say that it's the best way of matching bad debt expense to sales in the proper period, which is one of the main objectives of accounting (to match expenses to revenues in the same period).

The "allowance method" is based on an A/R aging and is the most accurate for measuring doubtful receivables against old accounts. The problem is that the bad debt expense is matched to revenues several months later.

(Personally, I don't care if they don't match. It's not like you're publishing financials every month, and unless your write offs are 10% of sales or higher, they don't fluctuate significantly enough to give a different picture).

A certain percentage of those credit sales sitting in A/R will most likely be uncollectible if a company does not perform its due diligence and screen its buyers for credit worthiness. Corollary to that, empirical evidence suggests that the likelihood of collecting 100% of the funds related to a specific sale greatly decreases the longer the credit sits in A/R and ages. An allowance account is then created as a contra-asset account to present a more "real-world" picture of the amount the selling company expects to collect from aged credit sales. It goes along with the principle of conservatism.