Sales Returns and Allowances

Allowances are reductions in assets based upon uncertainties in the sales process. While there are many types of allowances, the allowance for doubtful accounts is the most common. A company that sells on credit must record an allowance for doubtful accounts. This allowance is an estimate of the company’s accounts receivable balance that it expects will ultimately remain uncollectible. Management determines this estimate by examining historical collection rates and trends in the general economy and industry. Sales returns and allowances is a deduction from sales that shows the sale price of goods returned by customers, as well as discounts taken by them to retain defective goods.

• However, when you are first learning accounting, the language is quite foreign.
• His career includes public company auditing and work with the campus recruiting team for his alma mater.
• This line item is the aggregation of two general ledger accounts, which are the sales returns account and the sales allowances account.
• The accounts that are related to each other (the ones with the same column heading) are said to be controlled by or linked to each other, and they share a common control account.

To close these debit balance accounts, a credit is required with a corresponding debit to the income summary. For companies using accrual accounting, this includes both cash payments and payments made on account. The sales account, otherwise known as the revenue account, is found at the top of the company’s income statement.

How to Use the General Journal to Enter a Cash Refund on a Credit Card Transaction in QuickBooks

As mentioned in the definition, the accounts that get closed are the temporary accounts, which comprise
revenues and expenses, as well as owner drawings. Within a merchandising company, there are some unique
revenue accounts that are going to be closed and hence have closing entries. These are the sales discounts
and sales returns and allowances, which will be closed in addition to the sales account. Closing entries are used in accounting to transfer the results of business operations, originally accounted for in temporary revenue and expense accounts, into permanent equity accounts.

Our team of reviewers are established professionals with decades of experience in areas of personal finance and hold many advanced degrees and certifications. Prepare a schedule that converts Dr. Accardo’s “excess of cash collected over cash disbursed” for the year 2017 to net income on an accrual basis for the year 2017. His work has appeared in various publications and he has performed financial editing at a Wall Street firm.

How to Journalize Closing Entries for a Merchandise Corporation

The credit part of this entry involves both a controlling account (accounts receivable) in the general ledger and a customer’s account (Champ’s TV Sales) in the accounts receivable subsidiary ledger. However, to improve the bookkeeping process, returns and allowances are often recorded in a separate account entitled sales returns and allowances. The two accounts may sometimes be combined into a single account in the general ledger. This typically happens when the balances in these accounts are relatively small, so there is no point in tracking returns and allowances separately.

Closing entries are entered into the general journal, and then posted to the general
ledger. A contra-revenue account is a liability from revenue which helps in determining whether to omit certain sales transactions, which would otherwise be mistaken as revenue. It is usually included if there are any sales returns and allowances or other type of return not recorded in the sales journal. Since the ledger https://kelleysbookkeeping.com/view-a-labor-budget-to-actual-report/ accounts are closed to the General Ledger, this account balance indicates that there are no more invoices in which credits have not been posted. Although sales returns and sales allowances are technically two distinct types of transactions, they are generally recorded in the same account. Sales returns occur when customers return defective, damaged, or otherwise undesirable products to the seller.

Nature of Business

To illustrate, suppose that Lakeside Electronics issued the credit memorandum shown in the figure below to Champ’s TV Sales for the return of a defective 19-inch TV. This tutorial will cover the adjusting and closing process for a merchandising company. Overshooting in sales is caused due to overstating of sales returns and allowances.

However, at the end of every account period the sales account is closed to equity as part of the closing process. Therefore, the aggregation of sales over the company’s history is found in the equity accounts. In the sales revenue section of an income statement, the sales returns and allowances account is subtracted from sales because these accounts have the opposite effect on net income. Therefore, sales returns and allowances is considered a contra‐revenue account, which normally has a debit balance. Recording sales returns and allowances in a separate contra‐revenue account allows management to monitor returns and allowances as a percentage of overall sales.

Chapter 6: Accounting For a Merchandising Enterprise

Thus, the term credit memorandum indicates that the seller has decreased the customer’s account and does not expect payment. In the seller’s books, a return or allowance is recorded as a reduction in sales revenue. Since the sales account normally has a credit balance, returns and allowances could be Closing Entries, Sales, Sales Returns & Allowances In Accounting recorded on the debit side (the reduction side) of the sales account. The process of recording closing entries for service companies was illustrated in Chapter 3. You may recall that a closing entry is an entry made at the end of an accounting period that is used to close
out a temporary account.