An early payment discount is a reduction of the balance due on an invoice offered by a supplier for payment by a deadline earlier than the regular due date. Early payment discounts are usually offered to incentivize faster payment and minimize carrying costs of receivables.
Note
An early payment discount is not an ordinary discount as that term is generally used throughout Manager. Normally, a discount is a percentage or fixed-amount price reduction on an individual line item. An early payment discount applies to an entire invoice.
Example
ACME Services Company regularly extends credit to customers by issuing sales invoices net 30 days. In other words, the due date on each new invoice is 30 days in the future. But it offers a 5% early payment discount if customers pay within 10 days.
ACME is a supplier of Brilliant Industries. Whenever cash flow is satisfactory, Brilliant saves 5% on its purchases from ACME by paying quickly.
Early payment discounts on purchases can be applied by either of two methods:
- Debit note
- Adjusted payment
Debit note method
When you take an early payment discount offered by a supplier, the supplier may send you a credit note. Enter that credit note as a debit note in Manager. You can also, however, initiate a debit note yourself to record the early payment discount.
The debit note reduces the balance of Accounts payable for that supplier. Make payment with a bank or cash transaction equal to the reduced balance due for the purchase invoice.
Example
ACME Services Company raises a sales invoice to Brilliant Industries for 300.00 in services with a 10% tax added. A 5% early payment discount is offered. Brilliant enters a corresponding purchase invoice:
Brilliant decides to pay early, qualifying for the discount. So it creates a debit note, allocating the debit note to the specific purchase invoice. Since the discount applies to the entire purchase invoice, including tax, the Unit price is calculated as 5% of the total balance due of 330.00. The same 10% tax code is selected, and the debit note is marked as being tax-inclusive:
The purchase invoice’s Balance due is reduced by the debit note:
Brilliant pays ACME 313.50 to settle its debt.
Notes
In the example above, Brilliant could have calculated the debit note amount on the subtotal of 300.00, applied the 10% tax code, and not checked the tax-inclusive option. The result would have been identical.
The debit note posted the transaction to the same Advertising and promotion expense account used for the original purchase invoice. The transaction could also have been posted to a dedicated contra expense account, such as Early payment discounts (suppliers). That would make it easier to track total savings from such discounts. Either approach is permissible.
If line items on the original purchase invoice are taxed at different rates, you must enter a discount line for each tax code used, apportioning the total according to subtotals for individual tax rates.
Caution
In most jurisdictions, an early payment discount is considered a price reduction, because it was offered as a condition of the sale. So tax is due only on the reduced price of goods or services. But in some jurisdictions, tax may be due on the original sale price. In that case, do not apply the tax code to the discount line item(s). Your supplier will effectively be paying your tax on the discounted portion of your purchase. Check with a local accountant or tax authority to confirm which situation applies.
Adjusted payment method
An early payment discount can be applied without a debit note, by simply adjusting the payment transaction. Enter the full balance due from the purchase invoice, posting to Accounts payable and the supplier’s subaccount and invoice number. Do not apply any tax code on this line. This will totally clear the Accounts payable balance for the invoice.
Add a second line to the payment form, posted to either the same expense account as the original purchase or a dedicated contra expense account for discounts (see Notes above). Enter the early payment reduction as a negative number. Apply the relevant tax code (see Caution above). If more than one tax code was used on the purchase invoice, add separate lines for the discount amounts subject to each tax code. The payment total will be reduced to match funds you are paying to the supplier.
Example
Under the same scenario as before, Brilliant Industries decides not to enter a debit note. It enters its payment to ACME as a tax-inclusive transaction, posting the discount to the same expense account as the original purchase invoice:
The purchase invoice is paid in full.
Early payment discounts without purchase invoices
Sometimes, businesses receive sales invoices offering early payment discounts, but treat them as cash purchases and do not create purchase invoices. For the sake of clarity in record-keeping, the payment form for such a transaction should be entered using the adjusted payment method. Show the full purchase price, posted to relevant expense accounts, and separate line items for each portion the discount, as determined by tax codes. Enter discounts as negative numbers. The same alternatives for account posting are available as when dealing with purchase invoices.