Most companies choose to combine returns and allowances
into one account, but from a manager’s perspective, it may be
easier to have the accounts separated to make current
determinations about inventory. Whether or not a customer pays with cash or credit, a business
must record two accounting entries. One entry recognizes the sale
and the other recognizes the cost of the sale. The sales entry
consists of a debit to either Cash or Accounts Receivable (if
paying on credit), and a credit to the revenue account, Sales. Returning merchandise requires more than an accountant making
journal entries or a clerk restocking items in a warehouse or
store. An ethical accountant understands that there must be
internal controls governing the return of items.
The ethical dilemma may not arise from the accountant’s employer, but from the employer of the person outside the organization receiving the discount. You may have noticed that sales tax has not been discussed as part of the sales entry. Sales taxes are liabilities that require a portion of every sales dollar be remitted to a government entity. This would reduce the amount of cash the company keeps after the sale. Sales tax is relevant to consumer sales and is discussed in detail in Current Liabilities. Let’s consider the same situation except the retailer did not make the discount window and paid in full on September 30.
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The presence of this account draws attention to the fact that discounts are not being taken, frequently an unfavorable situation. The Purchase Discounts account (used only with the gross method) identifies about form 1094 the amount of discounts taken, but does not indicate discounts missed, if any. A business should set up its accounting system to timely process, and take advantage of, all reasonable discounts.
Purchase discounts provide an incentive for the retailer to pay early on their accounts by offering a reduced rate on the final purchase cost. Receiving payment in a timely manner allows the manufacturer to free up cash for other business opportunities and decreases the risk of nonpayment. Their income statement format is a bit more complicated than for a service company and is discussed in greater detail in Describe and Prepare Multi-Step and Simple Income Statements for Merchandising Companies. A simple retailer income statement is shown in Figure 6.5 for comparison. If merchandise are purchased on account, the accounts involved in the transaction are the purchases account and accounts payable account. The purchases account is debited and the accounts payable account is credited.
- Northern Merchandising Company sold inventory that cost $12,000 for $20,000 cash.
- Let’s consider the same situation except the retailer did not
make the discount window and paid in full on September 30. - Since the customer paid the account in full within the discount qualification period of ten days, the following journal entry on the retailer’s books reflects the payment.
- These businesses incur costs, such as labor and materials, to present and ultimately sell products.
In a periodic inventory system, a physical count of the inventory must be performed in order to determine the balance in Merchandise Inventory and Cost of Goods Sold. They can be current liabilities, such as accounts payable and accruals, or long-term liabilities, such as bonds payable or mortgages payable. Later, when the retailer sells $100 of that merchandise inventory to a customer for $500, the cash account is debited and the revenues account is credited for the same about.
and Contrast Perpetual versus Periodic Inventory
Recall the objective of closing; to transfer the net income to retained earnings and to reset the income statement accounts to zero in preparation for the next accounting period. As a result, all income statement accounts with a credit balance must be debited and vice versa. Several items are highlighted in these journal entries and are discussed further in the next paragraph.
Purchase Discounts (Periodic)
Purchases account is a temporary account for the merchandise purchased in which its normal balance is on the debit side. The purchases account will be cleared at the end of the period when the company needs to update the ending balance of the merchandise inventory in order to calculate the cost of goods sold during the period. Similar to credit terms between a retailer and a manufacturer, a
customer could see credit terms offered by the retailer in the form
of 2/10, n/30. This particular example shows that if a customer
pays their account within 10 days, they will receive a 2% discount. Otherwise, they have 30 days to pay in full but do not receive a
discount.
Net
sales (see
Figure 6.7) equals gross sales less sales discounts, sales
returns, and sales allowances. Recording the sale as it occurs
allows the company to align with the revenue recognition principle. The revenue recognition principle requires companies to record
revenue when it is earned, and revenue is earned when a product or
service has been provided. For example, assume that a retailer is considering an order for
$4,000 in inventory on September 1. The manufacturer offers the
retailer a 15% discount on the price if they place the order by
September 5.
Journal Entry for Purchase of Merchandise
Business owners may encounter several sales situations that can
help meet customer needs and control inventory operations. For
example, some customers will expect the opportunity to buy using
short-term credit and often will assume that they will receive a
discount for paying within a brief period. The mechanics of sales
discounts are demonstrated later in this section. To illustrate, assume that Carter Candle Company received a
shipment from a manufacturer that had 150 candles that cost $150.
A purchase allowance occurs when merchandise is
kept and a partial refund is issued. In either case, a manufacturer
will issue a debit memo to acknowledge the change in contract terms
and the reduction in the amount owed. The Purchases account is an income statement account that accumulates the cost of merchandise acquired for resale. In addition to purchases on account, a merchandising company’s operating cycle includes the sale of merchandise inventory on account or on credit as highlighted in Figure 5.3. When merchandise inventory is purchased, the cost is recorded in a Merchandise Inventory general ledger account.
The next illustration contrasts the gross and net methods for the case where the discount is lost. The gross method simply reports the $5,000 gross purchase, without any discount. In contrast, the net method shows purchases of $4,900 and an additional $100 expense pertaining to lost discounts. While discounts may seem slight, they can represent substantial savings and should usually be taken.
Identify the 2000, 1999, and 1998 net sales; cost of goods sold; gross profit; selling, administrative, and general expenses; and operating income. Prepare the 2 adjusting entries required under the periodic inventory method. Capital assets are significant pieces of property such as homes, cars, investment properties, stocks, bonds, and even collectibles or art.