Financial Accounting: An Integrated Statements Approach, 2nd Edition

the seller normally issues a credit memorandum. This memorandum is sent to the cus-

tomer and indicates the amount the seller is crediting the customer’s account receiv-

able for the return or allowance.

Sales returns and allowances reduce sales revenue. They also result in additional

shipping and other expenses. Since managers often want to know the amount of re-

turns and allowances for a period, the seller records sales returns and allowances in a

separate sales returns and allowances account. Sales Returns and Allowances may be

viewed as a contra(oroffsetting) account to Sales.

To illustrate, assume that on January 13 Online Solutions issued a $2,000 credit

memorandum to Krier Company for merchandise that was returned. The merchandise

was sold on account and the cost of the merchandise sold was $1,200. The entries to

record the issuance of the credit memorandum and the receipt of the returned mer-

chandise are as follows:

Using a perpetual inventory system, the second entry is necessary so that the mer-

chandise inventory account is up to date and reflects the actual merchandise on hand.

What if the customer pays for the merchandise and later returns the merchandise?

In this case, the seller issues a credit memorandum, and the credit may be applied

against other accounts receivable owed by the customer, or cash may be refunded. If

cash is refunded, the seller credits Cash, rather than Accounts Receivable, for the

amount of the refund.

PURCHASE TRANSACTIONS

As we indicated earlier in this chapter, most large retailers and many small merchan-

dising businesses use computerized perpetual inventory systems. Under the perpetual

inventory system, cash purchases of merchandise are recorded as follows:

224 Chapter 5 Accounting for Merchandise Operations

The Case of the Fraudulent Price Tags

One of the challenges for a retailer is policing its sales return pol-

icy. Customers can unethically or illegally abuse such policies in

many ways. For example, someone could attach JCPenney

store price tags to cheaper merchandise bought or obtained else-

where. They could then return the cheaper goods and receive the

substantially higher refund amount. In one such case for another

retailer, company security officials discovered the fraud and had

a couple arrested after they had allegedly bilked the company

for over $1 million.

INTEGRITY, OBJECTIVITY, AND ETHICS IN BUSINESS

Describe the accounting

for the purchase of

merchandise.

4

SCF BS IS

OT AcT —

Jan. 3 Merchandise Inventory 2,500

Cash 2,500

Q.$10,000 of merchan-

dise is purchased 2/10,

n/30; $4,500 is returned;

and the invoice is paid

within the discount period.

What was the amount

paid?

A.$5,390 [$5,500 

($5,5002%)]

SCF BS IS

—ATSET RT

—AcSEc ET

Jan. 13 Sales Returns and Allowances 2,000

Accounts Receivable—Krier Company 2,000

13 Merchandise Inventory 1,200

Cost of Merchandise Sold 1,200