Another description of a contra revenue account is one that reduces the amounts reported in a company's revenue accounts. A contra revenue account reduces a company's gross revenues to net revenues.
Here is an example to illustrate what we have described. If Company K sells $100,000 of merchandise on credit, the accounting entry is a debit to Accounts Receivable for $100,000 and a credit to Sales for $100,000. If customers return $500 of this merchandise, Company K will debit Sales Returns and Allowances (a contra revenue account) for $500 and will credit Accounts Receivable for $500. Company K's income statement will report Gross Sales of $100,000 less Sales Returns and Allowances of $500 resulting in Net Sales of $99,500.
By debiting the contra revenue account for the returns and allowances, Company K's management can easily see the amount originally sold and the amounts that were either returned or an allowance was given to avoid the return. (This information is important because it is costly for a company to incur the cost of shipping the goods and then to incur the cost of processing the same goods back into inventory—with no revenue!) If the returns were debited into the Sales account (instead of into Sales Returns and Allowances), the amount of the returns would be "buried" in the Sales account.
Another example of a contra revenue account is Sales Discounts. Sales discounts occur when a company offers a discount (such as 1% or 2% of the invoice amount if it is paid within 10 days instead of the company's normal 30 day period) and the customer remits the amount due within the 10 day period.
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