Accounting discounts are used to reduce the selling price of goods or services and can be divided into different types such as trade discounts and cash discounts.
1. Trade Discount: A trade discount is a reduction in the stated price of a product or service offered to certain customers such as wholesalers or retailers. It is commonly used to encourage bulk purchases, build customer loyalty, or reward specific groups of customers. Unlike other types of discounts, trade discounts are not billed separately. Instead, the discount amount is directly deducted from the sales revenue. The net amount after deducting the trade discount becomes the basis for recording revenues and receivables.
2. Cash Discount: A cash discount, also known as a prompt payment discount or settlement discount, is a reduction in the invoiced amount offered to the customer for paying the invoice within a specified period. The purpose of the cash discount is to incentivize customers to settle their bills quickly, thereby improving cash flow for the retailer.
In accounting, cash discounts are recorded in two separate accounts:
• Sales Account: The initial invoiced amount is recorded as sales accounts in the income statement.
• Sales Discount Accounts: If a customer uses a cash discount, the discount amount is recorded as a sales discount. This account is deducted from the sales account to calculate net sales.
However, The way Trade Discount and Cash Discount are handled in accounting may vary depending on the policies and practices of a specific company. It is important to be aware that there could be differences in how these discounts are accounted for in various situations.