Accounting for Returns, Discounts and Sales Tax
Learning Objectives
I. Recording sales and purchases returns
II. Accounting for Trade Discounts
III. Accounting for Settlement /Cash Discounts
IV. Accounting for Sale Tax
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I. Recording sales and purchases returns
It is normal for customers to return unwanted goods to a business; equally the business will occasionally have cause to return unwanted goods to their supplier.
Sales returns (returns inwards)
Originally a credit transaction
Dr Sales returns………….xx
Cr Receivables………………..xx
Originally a cash transection
Dr Sales returns ………….xx
Cr Cash…………………………….xx
Purchases returns (returns outwards)
Originally a credit transaction
Dr Payables…………………xx
Cr Purchases returns………….xx
Originally a cash transection
Dr Cash ……………………..xx
Cr Purchases returns…………..xx
II. Accounting for Trade Discounts
Trade discounts are given to try and increase the volume of sales being made by the supplier. By reducing the selling price, buying items in bulk then becomes more attractive. If you are able to source your products cheaper, you can then also sell them on to the customer cheaper too. For example, if we were to buy over 1000 items, the supplier might be able to drop the price of those items by 5%.
From an accounting perspective, trade discounts are deducted at the point of sale.
Example
Oliver sells goods with a book value of $1,000 to Sam on a cash basis and allows her a trade discount of 10%.
Show how the above should be recorded in both the books of Oliver and Sam.
Solution
Oliver’s books
Dr. Cash…………………900
Cr. Sales……………………….900
(Net sale=$1,000-$1,000 x 10%)
Sam’s books
Dr. Purchase………….900
Cr. Cash………………………….900
(Net purchase=$1,000-$1,000 x 10%)
III. Accounting for Settlement /Cash Discounts
This type of discount encourages people to pay for items much quicker. If you pay for the goods within a set time limit, then you will receive a % discount. These are often referred to as ‘cash discounts.’ For example, a cash discount of 3% is offered to any customers who pay within 14 days.
Discounts may be given in the case of credit transactions for prompt payment:
• A business may give its customer a discount – known as Discount allowed.
• A business may receive a discount from a supplier – known as Discount received.
The correct double entries are:
Discount allowed
Dr Discount allowed (expense)…………xx
Cr Receivables ………………………………………..xx
The expense is shown beneath gross profit in the statement of profit or loss, alongside other expenses of the business.
Discount received
Dr Payable ……………………………..xx
Cr Discount received (income)…………..xx
The income is shown beneath gross profit in the statement of profit or loss.
Example
George owes a supplier, Herbie, $2,000 and is owed $3,400 by a customer, Iris. George offers a cash discount to his customers of 2.5% if they pay within 14 days and Herbie has offered George a cash discount of 3% for payment within ten days.
George pays Herbie within ten days and Iris takes advantage of the cash discount offered to her.
Solution
Discount allowed
Cr Cash…………………………………….3,315 (97.5% x 3,400)
Dr Discount allowed (expense)…85 (2.5% x 3,400)
Cr Receivables ………………………………………..3,400
Discount received
Dr Payable ……………………………..2,000
Cr Discount received (income)………….60 ( 3% x 2,000)
Cr Cash…………………………………………….1,940 ( 97% x 2,000)
IV. Accounting for Sale Tax
Sales tax is levied on the final consumer of a product. Sales tax is charged on purchases (input tax) and sales (output tax).
If output tax (on sales) exceeds input tax (on purchases), the business pays the excess to the tax authorities. If input tax exceeds output tax, the business is repaid the excess by the tax authorities.
Sales tax is sometimes referred to as value added tax (VAT) or good and services tax. Sales tax is charged on most goods and services.
Sales tax paid on purchases (input tax)
Dr Purchases – excluding sales tax (net cost)….xx
Dr Sales tax (sales tax)……………………………………..xx
Cr Payables/cash – including sales tax (gross cost)…xx
Sales tax charged on sales (output tax)
Dr Receivables/cash –sales price including sales tax (gross selling price)..xx
Cr Sales – sales price excluding sales tax (net selling price)……………………..xx
Cr sales tax (sales tax)…………………………………………………………………………………..xx
Payment of sales (output) tax
If output tax exceeds input tax, a payment must be made to the tax authorities.
Dr Sales tax (amount paid)………………………..xx
Cr Cash (amount paid)…………………………………..xx
Receipt of sales (output) tax
If input tax exceeds output tax, there will be a receipt form the tax authorities.
Dr Cash (amount received)………………………xx
Cr Sales tax (amount received)……………………..xx
Example
Lorenzo purchases goods for $174,240 (including sales tax) and sells goods for 230,400 (including sales tax).
What amount of sales tax is ultimately payable to the tax authorities? The sales tax rate is 20%
Solution
Output tax = 230,400 x 20/120 = $38,400
Input tax = 174,240 x 20/120 = $29,040
Payable to tax authorities = Output tax – Input tax = $38,400-$29,040=$9,360
Example
Purchases (all on credit):
- Net amount of $180,000
- Sales tax of $18,000
- Total amount of $ 198,000
Sales (all on credit) :
- Net amount of $260,000
- Sales tax of $ 26,000
- Total amount of $286,000
Record these transactions.
Solution
Sales tax paid on purchases (input tax)
Dr Purchases ………………….180,000
Dr Sales tax……………………….18,000
Cr Payables……………………………………198,000
Sales tax charged on sales (output tax)
Dr Receivables……………………..286,000
Cr Sales …………………………………………….260,000
Cr sales tax…………………………………………..26,000
Payment of sales (output) tax
If output tax exceeds input tax, a payment must be made to the tax authorities.
Dr Sales tax……………………8,000 ( 26,000-18,000)
Cr Cash …………………………………..8,000
Source: ACCA, F3 by KAPLAN PUBLISHING