Definition of Purchase Discounts Lost
The account Purchase Discounts Lost is a general ledger account used by a company that records vendors’ invoices using the net method. A debit amount is entered in Purchase Discounts Lost only if a company fails to pay a vendor’s invoice within the vendor’s early payment discount period.
Purchase Discounts Lost is considered to be an interest expense or a financing charge resulting from the buyer not being able to pay the cash price. (Recall that in accounting cost is defined as the cash amount or the cash equivalent amount.)
Example of Purchase Discounts Lost
Assume that a retailer’s policy is to always pay a vendor’s legitimate invoice within the early payment discount period if such a discount is offered. Also assume that the retailer received a vendor’s invoice for $1,000 which has payment terms of 2/10, net 30 days. After reviewing and approving the invoice, the retailer will enter the invoice in its accounting records with a debit of $980 ($1,000 minus 2% discount) to Purchases or Inventory and a credit of $980 to Accounts Payable. If the retailer pays the vendor’s invoice within the 10-day early payment discount period, the retailer will record the payment with a debit of $980 to Accounts Payable and a credit of $980 to Cash.
However, if the retailer fails to pay the invoice within the early payment discount period, the retailer is required to remit $1,000. In that case the retailer will credit Cash for $1,000; debit Accounts Payable for $980; and debit Purchase Discounts Lost for $20. Note that the cost of the goods purchased remains at $980 (the cash price).
