Improper discounts
can be costly
By Joseph Arkin, C.P.A.
Business firms annually absorb
losses totalling millions of dollars by
permitting customers to take impro-
per discounts. This may not seem to
affect your firm , but closely examining
the facts reveals that improper dis-
counts mount up to a sizeable sum
and can adversely affect your profit
and loss statement.
These unwarranted discounts are:
(1) cash discounts taken after the
invoice due date; (2) cash (or trade
discount) taken on taxes included in
invoice price; and (3) cash (or trade
discount) taken on shipping, handling,
and other special charges shown on
invoice.
A common practice is to bill goods,
allowing settlement at an optional
date . Goods may be billed, for
instance, 2/ 10 net 30 . In essence , the
customer is being told that there is a
relationship between the time allowed
for payment and the amount to be
paid. For payments made within a 10-
day period , a two percent reduction is
offered. This reduction is generally
called a cash discount, originating at
the close of the Civil War when risk on
open accounts was very great. And
payments not made within the dis-
count period must be net.
In today's money market there is
valid reason to offer discounts. There
is a direct relationship between the
credit period and the loss from bad
debts. Lengthening the credit period
would undoubtedly result in increased
losses from uncollectible accounts.
You can put cash generated from
early collections to use by taking dis-
counts on your own purchases, or
reducing outstanding financial obli-
gations for which you are paying
increasingly higher interest rates .
A customer who takes a cash dis-
count after the stated terms is cheat -
ing you out of the use of the money.
You, in effect, are lending him money
without recompense. Many munici-
palities and states have sales and/or
use sales. A customer is not entitled to
deduct a cash or a trade discount on
the part of the invoice price represent -
ing taxes. For instance, if you bill a
customer $100 for merchandise, and
are required by local or state law to
add , say four percent tax , your total
invoice will read $104 . With terms of
2/ 10, net 30 , your customer would
only be entitled to $2 discount if
oayment was made within 10 days, yet
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The first step in
stopping these losses
is making sure
invoices clearly
separate merchandise
sales price and
sales tax es.
invariably the customer takes the
discount on the full invoice, in this
case $2 .08 .
The vendor is responsible for
collection of most (if not all) sales tax
and must remit the amount actually
billed, the amount required to be
charged, or the amount actually
collected , whichever figure is greatest.
A firm with volume, retailer, manufac-
turer, or wholesaler, will sustain a sub-
stantial loss if discounts are allowed to
be taken on sales taxes . (Note: Some
sales tax laws apply only to sales made
to the ultimate consumer and would
exempt sales made for the purpose of
resale.)
Invoices also may contain items for
which the firm is not making a profit,
but charging only its own costs, such
as freight and delivery . A customer
who is billed for $1,216 .59 for mer-
chandise and $121.49 for freight (total
$1 ,338 .08) is only entitled to a discount
on $1,216.59 . Any discount taken on
the freight charge of $121.49 results in
a loss to the vendor! If this bill was sub-
ject to terms of 3/ 10 net E.O .M ., the
improper discount alone would
amount to $3 .64 . If this seems trifling,
check your freight , shipping, and
handling charges for an entire year
and compute your losses from cus-
tomers taking discounts on these
items, you might be surprised.
The first step in stopping these
losses is making sure invoices clearly
separate merchandise sales price and
sales taxes .
The customer's monthly state-
ment should show separate totals for
merchandise and taxes, with the
statement that a discount can be
taken only on the merchandise
portion , not on any charges for local
or state taxes.
The same procedure should be
followed for freight and shipping, etc.
charges . The custome r must be
shown separate totals, both on the
invoice and statement, so it doesn't
become automatic to take the dis-
count against the total amount owned.
When checks are received with
improper discounts, only the inde-
pendent firm can afford to return
checks and demand issuance of a
corrected check . M ost firms would
prefer to deposit the check and send a
memorandum explaining t he dif-
ference still due for unearned discount
or discount erroneously taken on non-
merchandise items.
It may not be easy to discard the
ways of the past , although costly.
Adheren ce to a fixed policy of
demanding payment for improper dis-
counts will help reduce your operating
costs and consequently increase your
profits.
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PLAY METER. October 1. 1985
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