Example Exercise 3 Cash or On Account Purchases for a merchandising business Cash On Account or Merchandise can be purchased for cash or on account. Using a perpetual inventory system, purchases for cash are recorded by [CLICK] debiting Merchandise Inventory and crediting Cash for the purchase price of the merchandise. Purchases on account [CLICK] are recorded by debiting Merchandise Inventory and crediting Accounts Payable for the purchase price of the merchandise.

Example Exercise 3 2/10, net 30 Purchase Discounts Credit Terms ─ to encourage the buyer to pay before the end of the credit period, the seller may offer a discount. The credit terms may be expressed, for example, as: Discount percentage 2/10, net 30 Credit period Discount period Just as with sales, purchases of merchandise on credit can be subject to credit terms. From the buyer’s perspective, these are called purchase discounts. Credit terms with no discount are shown as net 30 which means that the buyer is required to pay within 30 days of the invoice date. To encourage the buyer to pay before the end of the credit period, the seller may specify credit terms on the invoice which offer a discount. For example, the credit terms could be two-ten, net thirty [CLICK]. This means that if the buyer pays the amount due within ten days, they can take a discount of two percent [CLICK]. Otherwise the full amount is due within 30 days [CLICK]. Read as: 2 percent discount if paid within 10 days, total amount due within 30 days.

Example Exercise 3 Purchases Returns and Allowances A buyer may receive an allowance for merchandise that is returned (a purchase return) or a price allowance (a purchase allowance) for damaged or defective merchandise. From a buyer’s perspective these returns or allowances are called purchases returns and allowances. A debit memo is normally issued in this situation A buyer may receive an allowance for merchandise that is returned (a purchase return) or a price allowance (a purchase allowance) for damaged or defective merchandise. From a buyer’s perspective these returns or allowances are called purchases returns and allowances. A debit memo is normally issued in this situation as is shown on the screen. Purchases returns and allowances is a contra purchases account and is subtracted from purchases to arrive at net purchases.

Example Exercise 3 (a) Purchases $11,500 Less: Return of merchandise (3,000) Net Purchases $ 8,500 Less: Discount ($8,500 x 2%) (170) Net amount due $ 8,330 Now let’s look at the example exercise. The merchandise is purchased for $11,500 on account with credit terms of two-ten, net thirty. We must determine the amount of cash that is required for payment if paid within the discount period. Because the company paid within the discount period and returned part of the merchandise, we must take both of these into account. First, we compute net purchases which is the total purchases of $11,500 less the return of merchandise of $3,000 to get net purchases of $8,500 [CLICK]. Then we subtract the discount of $170, calculated as $8,500 times 2 percent, from the net purchases to get the net amount due of $8,330 [CLICK].

Example Exercise 3 (b) Merchandise Inventory 3 Next we must decide what account would be credited for the return of the merchandise. When the merchandise was purchased, it was debited to merchandise inventory since the company is using a perpetual inventory system. Since the merchandise was returned for credit, it reduces the amount of inventory on hand. Therefore the merchandise inventory account [CLICK] must be credited for $3,000.

Example Exercise 3 Example Exercise 5-1 (continued) 3 Refer to Practice Exercises PE 3A and PE 3B to practice on purchase transactions. 3A, 3B  For Practice: PE 3A, PE 3B