Chapter 7
Inventory: Merchandising Transactions
177
Purchase Allowances
Purchase allowances occur when the buyer agrees to keep
the undesirable goods at a reduced cost. Continuing with the
above example, assume Tools 4U found another $500 worth of
unsatisfactory goods and the supplier offered a 20% allowance for
the company to keep the goods, rather than returning them. The
journal entry is recorded by debiting accounts payable and crediting
inventory as shown in Figure 7.8. The transaction amount is $100
($500 × 20%).
A balance of $4,200 ($4,800 − $500 − $100) is still owing to Roofs and More.
Purchase Discounts
Various types of discounts exist when purchasing products or services. Sellers often give discounts
to encourage customers to purchase more and to encourage early payments.
Two types of common discounts given are trade discounts and cash discounts. Only cash discounts
will be discussed in detail in this chapter.
Cash discounts
are offered to encourage prompt payment from customers in the form of a
percentage off the final bill for paying in a short amount of time. For example, a seller may offer a
2% cash discount if the payment is made within 10 days of the date of invoice, otherwise the full
amount is payable within 30 days.The term for this arrangement is commonly shown as 2/10, n/30
(read as: “two-ten, net thirty”). This means that a 2% discount is applied if payment is received
within 10 days; otherwise the net amount owing is due within 30 days. Another example is 3/15,
n/30, which means a 3 percent discount is applied if payment is received within 15 days, otherwise
the net amount owing is payable within 30 days. The following example illustrates how to record
a purchase discount.
Tools 4U made the original purchase from Roofs and More on January 1, 2016 for $4,800. The
amount Tools 4U owes has been reduced by $600 due to returns and allowances, so only $4,200
remains to be paid. The supplier (Roofs and More) allows 2/10, n/30 on all invoices. Since Tools
4U has excess cash at this time, the manager decides to take advantage of the cash discount by
paying the invoice within 10 days.
No change in owner’s equity
BALANCE SHEET
INVENTORY
– $100 CR
CURRENT ASSETS
CASH
PREPAID
EXPENSES
PROPERTY, PLANT
& EQUIPMENT
ACCOUNTS
RECEIVABLE
LONG-TERM
ASSETS
ACCOUNTS
PAYABLE
– $100 DR
CURRENT LIABILITIES
UNEARNED
REVENUE
BANK LOAN
OWNER’S EQUITY
OWNER’S
CAPITAL
OWNER’S
DRAWINGS
LONG-TERM
LIABILITIES
Journal Page 1
date
2016
account title and explanation
debit Credit
Jan 4 Accounts Payable
100
Inventory
100
Allowance from Roofs and More
______________
fIGuRe 7.8
