Cash discounts work as an incentive for the customers, who take goods on credit and become a liability, for the timely repayment. Sales revenue earned during the period is reduced. In a double entry system, cash discounts are further sub-divided into Discount Allowed (debit side) and Discount Receivable (credit side).
Eg: Godrej has introduced a new washing machine, with 10% discount of the market price, in the market for Rs. 50,000 which can also be financed. If the customer pays the total amount of Rs. 45,000 in 10 days from the date of purchase, Godrej allows a further 5% discount on the discounted price. Here Godrej has allowed further 5% discount to recover the cash in the stipulated time limit which can be further be used as the capital.
• Trade Discounts
This practice is more common in B2B strategy when goods are purchased in the bulk or to retain the loyal customers. They are generally not recorded in the accounting books. Sales with any receivable credit sales are recorded as the net sales.
Eg: Using the same example of Godrej as above, here the sales will be recorded as Rs. 45,000 in the accounting books and not as Rs. 50,000 as initial and then Rs. 5,000 as the discount allowed.
Generally discounts are ways to attract customers in the stiff competition.