What is a Contra Account?
A contra account is a unique type of account in accounting that is used to reduce the balance of a related or parent account. It appears directly opposite a primary account in the financial statements and has a balance that is contrary to the normal balance of the associated account. Contra accounts are essential for providing a more accurate and detailed view of the financial status of a business.
Types of Contra Accounts
Sales Returns
One common type of contra account is the “Sales Returns” account. This account is used to record the value of goods returned by customers after a sale has occurred. It is necessary because it allows businesses to keep track of how much revenue was actually realized after accounting for returned goods. The existence of a “Sales Returns” account is dependent on having a “Sales Revenue” account, as it offsets the recorded sales.
Accumulated Depreciation
Another key contra account is “Accumulated Depreciation.” This account tracks the total depreciation accumulated over the years for non-current assets. Without non-current assets, there would be no need for an accumulated depreciation account. This account helps businesses understand the remaining useful life and value of their assets.
Drawings
“Drawings” is a contra account used in sole proprietorships. It records the money and other assets that the owner withdraws from the company for personal use. This account reduces the owner’s equity since withdrawals are not business expenses but personal transactions.
Dividends
For corporations, “Dividends” is a contra equity account that shows distribution of profits to shareholders. When dividends are declared, they decrease the total shareholders’ equity because they represent a payout of the company’s earnings.
Common Mistakes In Identification of Contra Accounts
The table below summarises the contra-accounts tested in the GCE O/N level POA syllabus:
| Account | Nature | Explanation | Common mistake | |
| 1 | Sales returns | Dr | Contra account of Sales revenue | Recognised wrongly as expense/asset account |
| 2 | Drawings | Dr | Contra account of Capital | Recognised wrongly as expense account |
| 3 | Accumulated Depreciation | Cr | Contra account of Non-Current Asset | Confusion with depreciation) |
| 4 | Allowance for impairment on Trade receivables | Cr | Contra account of Trade receivables | Confusion with impairment loss on Trade receivable |
| 5 | Dividends (O Level) | Dr | Contra account of Retained earnings | Recognised wrongly as expense account |
Importance of Contra Accounts in Business
Contra accounts provide crucial information that helps in the accurate assessment of financial health. They allow businesses to show true financial figures, thus offering clear insights into profitability, asset values, and owner’s equity adjustments. For anyone reviewing a company’s financial statements, understanding contra accounts is essential for a full appreciation of the company’s financial dealings.
By maintaining accurate records in these contra accounts, businesses can ensure compliance with accounting standards and provide stakeholders with transparent and reliable financial information. This makes contra accounts not just an accounting necessity but a critical part of financial reporting and analysis.
