Accounting for cash (sales) discounts

Let's see how the credit term of 2/10, n/30 works in an example.

Michael & Co Ltd. ships $1,000 of goods to a customer. If the customer pays Michael & Co Ltd. within 10 days of the invoice date, the customer is allowed to deduct $20 (2% of $1,000) from the purchase of $1,000. In other words, the $1,000 amount can be settled for $980 if it is paid within the 10-day discount period.

In the situation when the buyer is paying the account payable to Michael & Co Ltd. for $1,000 early enough to receive a 2% discount, the following entry is made by the buyer:

Account Titles	Debit	Credit
Accounts Payable	1,000
Purchases Discount		20
Cash		980

On the other hand, in the case when we are receiving payment from the Customer for a $1,000 account receivable early enough to offer a 2% discount, the seller would make the following entry:

Account Titles	Debit	Credit
Cash	980
Sales Discount	20
Accounts Receivable		1,000

The method of recording the cash (sales) discounts is called the Gross Method.

Also see : Explanation of 2/10, n/30 credit terms