What is Contra Revenue?
Contra Revenue is a difference in gross revenue and net revenue. Generally, contra revenue accounts have a debit balance. It should be deducted from the gross sales. It is a helpful tool for the company to know the product specifications whether it is optimum or not as per customer requirement.
Types of Contra Revenue
- Sales Returns – If the company sells the goods and it returns due to some reasons such as defected goods or if they are not as per customer requirement. sales return decreases the sales and debtors if sales made on credit.
- Sales Allowance/Rebate – If the company sells the goods and it has some minor defects then the company sells such goods with some rebate/ allowance.
- Sales Discount – When the company sells the goods to a customer who purchases in cash mode then the company allows the discount to that customer for prompt payment. this discount is also known as a cash discount.
Examples of Contra Revenue
Example #1 – Based on Sales Return
M/s L&T Limited sells the construction equipment machines to M/s ABC & Company for $15000.00 on Credit. After some days M/s ABC & Co. return the construction equipment machines & $2000.00 due to defect in them.
In the above case, the CR amount is $2000.00 which will be adjusted from sales to $15000.00 and in the accounting book sales to be recorded on $13000.00.
Example #2 – Based on Sales Allowance
M/s XYZ Company has some old fashion clothes and they want to sell the same on an urgent basis. There is a customer in the market who want to purchase such clothes, but he knows the market scenario of the cloth industry. M/s XYZ Company agrees to sell the goods $ 5000 less than from the amount of the original sale which is $40000.00.
In the above case, the company will bear a loss margin on $5000.00 on clothes and the same will be adjusted from the sales account. The CR amount is $5000.00
Example #3 – Based on Cash Discount
M/s EFG & Co. sells the Goods $10000.00 with Cash/Sales Discount @ 1% to M/s MNO & Co…
In the above case, the company will bear a loss margin on $100 and the contra revenue amount is $100.00.
Accounting of Contra Revenue
In the above case, the company should minus the sales return/allowance/discount from gross sales.
There is one more method can be used for accounting of contra revenue which is as below:-
In the above method, we debit the contra revenue account in the trading account but generally, the company uses the first method of accounting of contra revenue.
- Effect of contra revenue in income statement provides accurate financial information of the company.
- The company can estimate the quality of products basis sales return quantity and amount of product.
- Sale Discount increases the cash inflow and reduces bad debts.
- Due to the sale discount, the company gets prompt payment which reduces the collection efforts of staff.
- If the company is manufacturing such products which have market competition then the company will have to maintain the policy of sales return, sales allowance and sales discount.
- It increases the extra cost and time for accounting for such transactions.
- It decreases the profit and profit margin of the company.
- Contra Revenue accounting policy is applicable for Small Businesses.
- It increases the extra efforts of the company.
- Accounting of contra revenue is very complicated as the same is increased accounting work. It adversely affects many accounts such as cash account if the company sells the goods on cash, debtors account if the company sells the goods on credit, stock account and sales account as the same as reversed.
- The company will have to maintain separate manpower for such accounting.
- A company should have a policy for not to return the goods which have been sold, not provide sales rebate and discount on products.
- The company should know the reasons for the increase in contra-revenue on a monthly basis so that extra Cost and time can be saved.
- The company should use the first method of accounting of contra revenue so that financial statements can be representing better and as per accounting guidelines.
The company should maintain a separate accounting of contra revenue for a better presentation of financial statements and can estimate the quality of the product.
This has been a guide to what is Contra Revenue Account & its definition. Here we understand the formula of contra revenue along with journal entries examples, advantages, disadvantages, and limitations. You can learn more about accounting from the following articles –