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Net credit sales are the amount of sales after returns, allowances, and discounts have been deducted. When a business accounts for its revenue, it must subtract any activity that has a negative effect on its income from operations. Since it is difficult to predict the amount of returns and allowances that will occur, the amounts are subtracted from gross sales after the fact. Discounts given on credit sales are easier to forecast, but are still deducted afterward due to variations in customer payment schedules.
After a credit sale occurs, the gross amount is recorded as revenue and an invoice for payment is generated. One of the factors that affects net credit sales is sales allowances. These include any type of discounts given to the customer. Discounts are often given in the form of promotional incentives and percentage deductions for early invoice payments.
A second factor that can affect net credit sales is returns. These occur when a customer has received the product and has determined that it is either damaged or unusable. The reasons for not being able to use the product can range from the wrong specifications to a simple change of mind. The monetary amount of returns is deducted in the period in which they occur, but is often estimated as a percentage of gross sales in future-oriented forecasts.
Net credit sales are reflected on a company's income statement. Before the statement is completed, accounting entries are made in a company's general ledger that record the gross sales and any sales returns and allowances for the period. Net credit sales are reported on the income statement as net sales and added to other net revenues to arrive at a total revenue figure.
Another way to understand the idea of net credit sales is to compare it to personal income. When an individual earns a wage, he or she does not receive the full wage amount in the paycheck. Deductions are taken for taxes and direct benefit costs, such as health insurance and company retirement plans. The amount that an individual receives per pay period is the net income amount remaining after payroll deductions. In a similar way, net credit sales are the sales that remain after the operations deductions described above.
The net credit sales concept is important for accounting purposes since it provides a more accurate picture of a company's cash flow and income from operations. It provides a way for returns and allowances to be tied back to the appropriate source while reflecting how much a company actually sold. The net amount is the actual amount of positive cash flow a company received from sales activity.