If you’re familiar with accounting, buy stuff online, or own a business, the discount is not a new word. Now and then, businesses give out discounts to their clients and customers. However, a trade discount is a special kind of discount. What is a trade discount? How do you calculate it? Does it have accounting entries? Let us find out here.
Definition of trade discount
Trade discount is defined as a reduction in the selling price of goods or services to enable retailers to sell and earn a profit.
It is also referred to as allowances off selling price for bulk purchases.
How to calculate trade discount
A firm has a policy of trade discount of 5% if a customer buys more than 2000 units. A sale was made to Mr. Ahmed for 2,300 units at 50 Naira per unit. What’s the trade discount given to Mr. Ahmed? How much did Mr. Ahmed pay for the goods?
The total amount for the goods is 2,300 units × 50 Naira. With your calculator, you should have 115,000 Naira.
The trade discount given to Mr. Ahmed is 5% of 115,000 Naira. That is 5 ÷ 100 × 115,000. This gives 5,750 Naira. So, Mr. Ahmed will not pay 5,750 Naira.
The amount Mr. Ahmed paid for the goods is 115,000 – 5,750. This is equal to 109,250 Naira. Therefore, Mr. Ahmed paid 109,250 Naira for the goods.
Accounting Entry for trade discount
When a trade discount is given by a business, there is no accounting entry for it.
In the above example, the firm will not record the trade discount of 5,750 Naira in its book of account. The sales amount for the goods is 109,250 Naira which will be recorded in the sales account and cash (Treasury) account.
In conclusion, a trade discount is an impetus to sell in a large quantity. Also, it gives retailers the opportunity to earn a profit. The discount given is the profit to the retailer.