Question

Kimmel Company uses the net method of accounting for sales discounts. Kimmel also offers trade discounts to various groups of buyers.

On August 1, 2017, Kimmel sold some accounts receivable on a without recourse basis. Kimmel incurred a finance charge.

Kimmel also has some notes receivable bearing an appropriate rate of interest. The principal and total interest are due at maturity. The notes were received on October 1, 2017, and mature on September 30, 2019. Kimmel’s operating cycle is less than one year.

Instructions

(a) (1) Using the net method, how should Kimmel account for the sales discounts at the date of sale? What is the rationale for the amount recorded as sales under the net method?

(2) Using the net method, what is the effect on Kimmel’s sales revenues and net income when customers do not take the sales discounts?

(b) What is the effect of trade discounts on sales revenues and accounts receivable? Why?

(c) How should Kimmel account for the accounts receivable factor on August 1, 2017? Why?

(d) How should Kimmel account for the note receivable and the related interest on December 31, 2017? Why?

Short answer

1. Net method reports sales at its net realizable value.

2.Trade discount is not reported in books of accounts.

3. Factoring will reduce the accounts receivable and increase the balance of cash and loss.

4. Note and interest receivable will be considered as non-current assets.

Step-by-step solution

Definition of Sales Discount

Sales discount can be defined as the reduction in the price offered by the seller of the product. It is provided as a specific percentage of the sales price. Such a discount is reported as an expense by the seller.

Effect and Accounting of Net Method of Sales Discount

(1) Under the net method, Kimmel must account for sales discount by reporting the accounts receivables and sales revenue on net realizable value, i.e., sales price less discount.

Under the net method, the sales must be recorded at their cash equivalent value or transaction price.

Effect of Trade Discount on Sales Revenue and Accounts Receivables

Trade discount is not reported in the accounts and is also not reflected in the financial statement of the business entity. The sales revenue and the accounts receivables are reported after deducting the trade discount.

Reporting Factor of Accounts Receivables

The business entity must reduce the accounts receivables balance by the amount of receivables factored. It is done by crediting accounts receivables, debiting cash, and debiting loss. Loss is calculated by deducting the cash received from the carrying amount of accounts receivable.

Reporting Note Receivable and Related Interest

The business entity must report the Note receivable and Interest receivable as a non-current asset on the balance sheet because the company’s operating cycle is less than one year, and the note will get mature after two years.