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Also a general ledger account in which the purchase discounts are recorded under the periodic
inventory method. Often a 1% or 2% discount that a buyer may deduct from the amount owed to a supplier (if
stated on the supplier’s invoice) for purchases discount paying in 10 days instead of the customary 30 days. The
purchase discount is also referred to as an early-payment discount. Regarding tracking purchase discounts, there are two essential methods – the net method and the gross method.
Debit vs. Credit: What You Need to Know About Accounting Terms
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A business orders an inventory of goods worth USD 200,000 and USD 2,000 of goods came in damaged so they had to be returned and further USD 4,000 goods weren’t up to the business standard. Let’s look at this example to understand net purchases a little better. Otherwise, the net amount would be payable in a maximum of 20 days (i.e., 20th January). Otherwise, the full amount is due on the 20th from when the invoice was initially generated. The decision of which method to use for a particular task can be overwhelming, as there are often multiple ways to accomplish each job. Weighing the pros and cons of each method is key to making an informed decision.
The two methods of accounting for purchase discounts – the net method and the gross method
If a high volume company purchases $40,000 of goods, its cost will be $28,000 ($40,000 X 70%). To comply with the cost principle the company will debit Purchases (or Inventory) for $28,000 and will credit Accounts Payable for $28,000. As an example of a purchase discount, a seller offers its customers 2% off the invoiced price if payment is made within 10 days of the invoice date. This common payment option is contained within the invoicing code « 2/10 net 30, » which usually appears in the header line of an invoice. The purchase discount also lessens the net purchases and has a credit balance.
Usually, suppliers offer a percentage of the total amount as a purchase discount. On top of the discount rate, they will also specify the number of days by which the company must settle the obligation. If the company fails to pay the owed amount by that period, it cannot avail of the purchase discount. A common example of a purchase discount are the NET D payment terms, such as 2/10 Net 30, where a buyer receives a 2% discount if an invoice is paid early within 10 days, otherwise a full payment is due in 30 days. Before we proceed with the accounting entries, it is necessary to first distinguish between the two types of discounts being offered by BMX LTD. The 10% discount is a trade discount and should therefore not appear in Bike LTD’s accounting records.
Supplements Buy / Sell
Cash purchases require payment in cash at the time of purchase whereas credit purchases require payment at a future date. The purchases account is debited when purchases are made against a credit of cash or trade payables. The journal entry to record the settlement, including the purchase discount for Red Co., is below. If the company does not apply for the purchase discount, it uses the following journal entry to record the settlement.
