Sales Discounts, Returns and Allowances: All You Need To Know

Accounting for Sales Discounts, Returns and Allowances

Emilie N.- FCCA, CB, MBS
Emilie N.- FCCA, CB, MBS

Emilie is a Certified Accountant and Banker with Master's in Business and 15 years of experience in finance and accounting from corporates, financial services firms - and fast growing start-ups.

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Contents

What are Sales Discounts, Returns and Allowances?

Sales Discounts, Returns and Allowances are contra revenue accounts, also known as contra sales accounts, with debit balances that reduce the gross Sales Revenue credit balance on an income statement in order report the net Sales Revenue generated by a business for an accounting period.

Find out more about contra revenue accounts

Sales Discounts is a contra revenue account that records the value of price reductions granted to buyers in order to incentivize early payments. Examples include Net D cash discounts like 2/30 Net 60, where a full invoice payment is due in 60 days but a buyer will receive a 2% discount in case of an early settlement within 30 days.

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Sales Returns contra revenue account records the value of a sales deduction attributable to goods returned by buyers in exchange for a refund.

Sales Allowances contra revenue account records the value of reductions in selling price granted to buyers who agreed to accept a defective product instead of returning it to the seller.

Uses & Benefits

Contra accounts are presented separately from gross Sales Revenue on an income statement to show the Discounts, Returns and Allowances that reduced the original total value to the net amount, which is more informative for the users of financial statements than reporting a net balance only.

Allowing the income statement readers to clearly distinguish between the original amount of sales revenue, the sales reductions, and the resulting net sales has many benefits, for example:

While it is acceptable to record and report discounts, returns and allowances within the sales revenue account–especially for very small businesses–doing so leads to the loss of valuable information and insights.

As a result, it is advisable to use two accounts:

  1. Revenue account to record the value of an original sale
  2. Contra revenue account to maintain the details of any discounts, returns and allowances that reduce the value of the original sale
Revenue vs. Contra Revenue
Revenue Original sale
Contra Revenue Sales allowances, returns and discounts

The opposite of the revenue contra accounts Sales Discounts, Returns and Allowances are expense contra accounts Purchase Discounts, Returns and Allowances.

Debit or Credit?

A contra sales revenue account–such as Sales Allowances, Returns and Discounts-has a debit balance because it is contrary to the credit balance of a regular Sales Revenue account.

Debit or Credit? – Sales Returns, Discounts and Allowances [Contra Revenue Account]
Account Name Account Type Debit Credit
Sales Revenue Parent revenue account Decrease Increase
Sales Discounts, Returns and Allowances Contra revenue account Increase Decrease

Calculation Formula

The net Revenue balance on an income statement is calculated as gross Revenue minus all contra-revenue items like Sales Returns, Allowances and Discounts.

Contra Revenue Sales = Gross Revenue Sales – Net Revenue Sales

In other words, contra sales revenue is the difference between gross revenue and net revenue.

Journal Entry

When a seller grants a discount, refund or an allowance to a buyer, the vendor will debit a Sales Discounts, Returns or Allowances contra-revenue account and credit Accounts Receivable if the sale was made on credit, or Cash in Bank if a refund is required as the payment has already been received.

Credit Accounts Receivable if a sale was made on credit and a payment has not yet been received.

This is because the initial accounting journal entry at the time of sale was a debit to Accounts Receivable asset account and credit to a Sales Revenue account.

Credit Sales - Discounts, Returns and Allowances
Account Name Account Type Financial Statement Debit Credit
Sales Discounts, Returns and Allowances Contra Revenue Income Statement $$$
Accounts Receivable Asset Balance Sheet $$$

Credit Cash in Bank if a sales return or allowance involves a refund of a buyer’s payment.

Cash Refund - Returns and Allowances
Account Name Account Type Financial Statement Debit Credit
Sales Returns and Allowances Contra Revenue Income Statement $$$
Accounts Receivable Asset Balance Sheet $$$

Financial Statements

Contra sales revenue accounts are presented in the Revenue section near the top of a company’s income statement, as a deduction from the gross Sales Revenue, which results in the net Sales Revenue generated by a business in an accounting period after discounts, returns and allowances.

The Sales Discounts, Returns, Allowances contra revenue sales accounts may be presented on the income statement as individual line items or–if immaterial or preferable–aggregated into a single contra-revenue line.

Example #1: Multiple Individual Line Items

Income Statement >>> Sales Revenue
Sales Revenue - Gross Revenue $100,000
(Less: Sales Discounts) (Contra Revenue) ($15,000)
(Less: Sales Returns) (Contra Revenue) ($10,000)
(Less: Sales Allowances) (Contra Revenue) ($5,000)
Sales Revenue - Net Net Balance (= Revenue - Contra) $70,000

Example #2: One Aggregated Line Item

Income Statement >>> Sales Revenue [Aggregated]
Sales Revenue - Gross Revenue $100,000
(Less: Sales Returns, Discounts and Allowances) (Contra Revenue) ($5,000)
Sales Revenue - Net Net Balance (= Revenue - Contra) $95,000
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Emilie N., FCCA, CB, MBS
Emilie N., FCCA, CB, MBS

Emilie is a Certified Accountant and Banker with Master's in Business and 15 years of experience in finance and accounting from large corporates and banks, as well as fast-growing start-ups.

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