The benefits of trade discounts are not limited to businesses. An element of judgement is required over whether an entity is likely to take advantage of the prompt payment discount and, therefore, how much revenue should initially be recognised. This will have an impact on entities’ gross profit margins and there should be appropriate evidence to support judgements made. If, based on past experience, J Co did not expect the customer to make the payment within 14 days, then the full $2,000 would have been recorded as revenue in the first instance. If the payment was made within the 14-day period after all, this would require an adjustment to reduce revenue by $60. Company A is a manufacturer who does not sell to end-consumers but only to wholesalers, distributors, retailers and other resellers.
If the discount is provided as the percentage, we need to calculate it by multiplying it with the normal price. Let’s assume that 100 keyboards are sold for the list price of 300 each with a trade discount of 10%. Trade discounts are generally ignored for accounting purposes in that they are omitted from accounting records. A ledger account for “cash discount” will also be opened in the general ledger. This will further reflect in the income statement as an expense. If the discount is provided by a retailer, then it’s by no means a trade discount.
The trade discount customarily increases in size if the reseller purchases in larger quantities (such as a 20% discount if an order is 100 units or less, and a 30% discount for larger quantities). A trade discount may also be unusually large if the manufacturer is trying to establish a new distribution channel, or if a retailer has a great deal of distribution power, and so can demand the extra discount. BMX LTD as part of its purchases promotion campaign has offered to sell their bikes at a 10% discount on their listed price of $100. If customers pay within 10 days from the date of purchase, they get a further $5 cash discount. Bike LTD purchases a bike from BMX LTD and pays within 10 days of the date of purchase.
However, the distributor allows a trade discount from the catalog price based on each customer’s volume. However, a reseller will be given a trade discount of 20% from the catalog price, and will be charged $80. Lastly, a registered high-volume wholesaler will be given a trade discount of 27% and will be charged $73. The seller deducts the discount from the list price and then records the final selling price to book the sale/purchase of goods in the books of the manufacturer/wholesaler. It is when the seller offers a series of discounts on the product.
Cash discounts are offered to customers who pay for their purchases in cash or within a specified period. For example, a supplier may offer a 2% discount to customers who pay for their purchase within ten days. Trade discounts are distinct from cash discounts, it’s vital to remember that. Cash discounts are given to consumers who pay for their products on time, whereas trade discounts are more concerned with the quantity or type of business done. The trade discount is deducted from the list price of the goods when the reseller calculates its cost of goods sold (COGS).
A trade discount is a routine reduction from the regular, established price of a product. The use of trade discounts allows a company to vary the final price based on each customer’s volume or status. For example, if a retailer purchases 100 units of a product with a list price of $10 each and receives a 20% discount, the retailer will pay $800 instead of $1,000. A trade discount is calculated on the list price itself before any transaction takes place.
It is neither recorded in the books of accounts of the manufacturer nor the wholesaler/retailer. Cash discounts result in the reduction accounting policies examples of purchase costs during the period. The GST laws state that there will be no difference in trade discounts and cash discounts.
Meaning, the seller records the sale at the price net of the trade discount. The buyer also records the purchase at net of the trade discount. It is important to realize that the only bookkeeping entry relates to the net price (840) given to the customer. There is no entry in the accounting records for both the list price of 1,200 and the trade discount of 360 (1,200 x 30%). Most businesses do not offer early payment discounts, so there is no need to create an allowance for sales discounts.
Students studying FA1 and FA2 will also see prompt payment discounts but the underlying detail of IFRS 15 will be less relevant. Additionally the diagram below summarizes the difference between trade discounts and cash discounts. By doing so, you can immediately reduce sales by the amount of estimated discounts taken, thereby complying with the matching principle. A company may choose to simply present its net sales in its income statement, rather than breaking out the gross sales and sales discounts separately. This is most common when the sales discount amount is so small that separate presentation does not yield any material additional information for readers.