Allowance for uncollectible advances is a contra asset account. It reduces the value of royalty advances to reflect the estimated value that will be recovered by future royalty earnings or recovered from the royalty recipient.
10500 Royalty Advances (consolidated account)
- 10510 Royalty Advances
- 10520 Allowance for Uncollectible Advances (contra-account)
There are two ways to recognize this liability.
Direct Write-Off Method
Small companies often use the direct write-off method. At the end of each year the royalty advance balances are reviewed. The advance balance is adjusted to reflect the best judgement of which advances will not be recovered through future royalty earnings or recovered from the royalty recipient.
With the accrual method a licensor determines these historical write-off percentage for royalty advance payments. If the amount is 10%, this means that 10% of advances paid out will not be recovered by future royalty earnings.
When royalty advances are recorded a corresponding entry is made to increase the allowance for unrecoverable advances and recognize a royalty expense
At year end if it is determined that the allowance for unrecoverable advances is under stated a general ledger entry is entered to increase the unrecoverable advance balance.
If it is determined that the allowance for unrecoverable advances is over stated the allowance is not reduced. Future accruals for the unrecoverable advances may be reduced.
Note: In the United States the Internal Revenue Service only allows actual royalty advance write-offs to be deducted from income. This requires the licensor to maintain two sets of books; one for accounting advance write-off expense and the other for the actual royalty advance writer off expenses. The difference between the accounting and tax numbers are reported on the income tax return.