written by | May 18, 2022

What is Cash Discount and its Examples?

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Table of Content


The relationship between a seller and a customer has always been a muse for those who closely follow market trends and the business world. The seller often tries to lure the customer by giving several incentives, offers or discounts. The seller uses a cash discount to motivate the buyer to pay the invoice within the specified period. Apart from this, businesses also practice trade discounts. But in this article, we shall try to understand the concept of cash discount and how to calculate it with examples.

Did you know?

A cash discount is a scheme that is not legally included in a contract, and it is just a tool to motivate the buyer or customer to make payments faster.

Also Read: What is Inventory Valuation, and Why is it Important?

What is Cash Discount in Accounting?

Cash discounts, also called ‘early payment discounts’ or ‘prompt payment discounts’, refer to an inducement offered by a seller of goods or service providers to a buyer to motivate him to pay a bill before the scheduled due date. The seller reduces the unpaid amount by a certain percentage, thus offering a price reduction called cash discounts.

Various Terms Related to Cash Discounts

To better understand the concept of cash discounts, knowledge about a few terms is important:

1. Duration of Cash Discount

This is the period given to a buyer or customer to pay the due amount and get the discount before the scheduled due date.

2. Sum of Cash Discount

The net due amount is to be paid by the buyer after applying that certain percentage of price reduction offered by the seller.

3. Percentage Discount

The percentage of the sum subtracted from the total amount supposed to be initially paid by the buyer or customer.

Cash Discounts: Methods and Examples

There are various methods for calculating cash discounts:

  • Ordinary Dating Method

When the credit term reads [4/20, n/30], the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days. Also, the buyer should clear the bill within 30 days to escape any interest charges.

For example,

A buyer received a bill of ₹6,000 dated 13th October 2020 with terms [ 4/20, n/30]. He paid the entire sum on 31st October 2020. The effective amount then paid by the buyer would be

The date of Invoice: 13th October 2020. 

First day of the cash discount duration: 14th October 2020.

Last day of the cash discount period: 31st October 2020. 

Date of payment: 30th October 2020. 

Cash discount  = Price x Discount rate

                                     = ₹6,000 * 4/10

                                     = ₹240

Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                                       = ₹6,000 - ₹240

                                                                       = ₹5,760

  • End of the Month Method [E.O.M]

When the credit term reads [4/20, n/30 E.O.M], it means the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days of the following month from the date of the bill. Also, the buyer should clear the bill within 30 days of the next month to escape any interest charges. 

For example, 

A buyer received a bill of  ₹6,000 dated 05th April 2021 with terms [ 4/20 E.O.M]. He paid the entire sum on 10th May 2021. The effective amount then paid by the buyer would be:

Date of Invoice: 05th April 2021. 

First day of the cash discount duration: 1st May 2021.

The last day of the cash discount period: is 10th May 2021. 

Date of payment: 10th May 2021.

Cash discount  = Price x Discount

                         = ₹6,000 * 4/100

                                     = ₹240

Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                                       = ₹6,000 - ₹240

                                                                       = ₹5,760

  • Receipt of Goods Dating Method [R.O.M]

When the credit term reads [4/20 R.O.M], it means the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days after receiving the goods.

For example, 

A buyer received a bill of ₹6,000 dated 10th June 2019 with terms [ 4/20, n/30 R.O.M] for goods that arrived on 5th July 2019. He paid the entire sum on 10th July 2021. The effective amount then paid by the buyer would be

Date of Invoice: 10th June 2019.

First day of the cash discount duration: 6th July 2019. 

Last day of the cash discount period: 14th July 2019. 

Date of payment: 10th July 2021.

Cash discount  = Price x Discount rate

                         = ₹6,000 * 4/100

                                     = ₹240

             Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                                        = ₹6,000 - ₹240

                                                                        = ₹5,760

Also Read: An Introduction to Accounting - Basic Features of Accounting

Cash Discounts: Advantages and Disadvantages

The following are the advantages and disadvantages of cash discounts:

Advantages of Cash Discount

Disadvantages of Cash Discount

  1. The seller receives the due amount within or before the scheduled due date. 
  1. Cash discount policy can sometimes lead to an unnecessary loss of profit on the seller’s part. 
  1. Helps motivate the buyer or customer to pay within or before the fixed date of payment. 

      2.  The cash discount policy would increase monotonous accounts keeping for recording the discounts made on payments.

  1. The buyer or customer gets a discount on the amount to be paid, increasing profits.

      3.   Increase in the amount of time invested and complex assessments to calculate cash discounts on bills. 

  1. Any seller's cash discounts facility also attracts customers who get lured by discounts on payment. 

4.   Cash discounts can also, at times, lead to a reduction in the value of sales or the turnover of the business. 

Conclusion

A cash discount is an incentivising tool used by the seller to attract the customer into paying bills within or before the stipulated time leading to increased profits for both seller and the customer. Hence, it becomes important to understand the concept of cash discount prevalent in the market and business world. The article explains the meaning, method and examples of cash discount and discusses the required terms.

Now keep track of your cashflow and manage your incomes and expenses with ease by using the Cashbook app by Khatabook.

FAQs

Q: What are the disadvantages of cash discounts?

Ans:

The following are the disadvantages of cash discounts:

  • A cash discount policy can sometimes lead to an unnecessary loss of profit on the seller's part. 
  • The cash discount policy would increase monotonous accounts keeping for recording the discounts made on payments.
  • Increase the amount of time invested and complex assessments to calculate cash discounts on bills.

Cash discounts can also lead to a reduction in the value of sales or the business's turnover.

Q: What are the advantages of cash discounts?

Ans:

The following are the advantages of cash discounts:

  • The seller receives the due amount within or before the scheduled due date.
  • It helps motivate the buyer or customer to pay within or before the fixed payment date. 
  • The buyer or customer gets a discount on the amount to be paid, increasing profits.

Cash discounts facility given by any seller also attracts customers who get lured by discounts on payment.

Q: What is the meaning of 'percentage discount' in the concept of cash discounts?

Ans:

Percentage discount is the percentage of the sum subtracted from the total amount supposed to be initially paid by the buyer or customer.

Q: What are the cash discount methods and cash discount examples?

Ans:

The following are the three cash discount methods with cash discount examples:

  • Ordinary Dating Method:

When the credit term reads [4/20, n/30], it means the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days. Also, the buyer should clear the bill within 30 days to escape any interest charges. 

For example, 

A buyer received a bill of ₹6,000 dated 13th October 2020 with terms [ 4/20, n/30]. He paid the entire sum on 31st October 2020. The effective amount then paid by the buyer would be:

Date of Invoice: 13th October 2020. 

First day of the cash discount duration: 14th October 2020.

Last day of the cash discount period: 31st October 2020. 

Date of payment: 30th October 2020. 

Cash discount  = Price x Discount rate

                         = ₹6,000 * 4/10

                         = ₹240

           Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                                       = ₹6,000 - ₹240

                                                                       = ₹5,760

  • End of the Month Method [E.O.M]: 

When the credit term reads [4/20, n/30 E.O.M], It means the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days of the following month from the date of the bill. Also, the buyer should clear the bill within 30 days of the next month to escape any interest charges.

For example, 

A buyer received a bill of  ₹6,000 dated 05th April 2021 with terms [ 4/20 E.O.M]. He paid the entire sum on 10th May 2021. The effective amount then paid by the buyer would be:

Date of Invoice: 05th April 2021. 

First day of the cash discount duration: 1st May 2021.

The last day of the cash discount period: is 10th May 2021. 

Date of payment: 10th May 2021.

Cash discount  = Price x Discount

                         = ₹6,000 * 4/100

                         = ₹240

Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                          = ₹6,000 - ₹240

                                                          = ₹5,760

  • Receipt of Goods Dating Method [R.O.M]:

When the credit term reads [4/20 R.O.M], it means the buyer gets a discount of 4% on the amount to be paid if he makes the payment within 20 days after receiving the goods.

For example, 

A buyer received a bill of ₹6,000 dated 10th June 2019 with terms [ 4/20, n/30 R.O.M] for goods that arrived on 5th July 2019. He paid the entire sum on 10th July 2021. The effective amount then paid by the buyer would be

The date of Invoice: 10th June 2019.

First day of the cash discount duration: 6th July 2019. 

Last day of the cash discount period: 14th July 2019. 

Date of payment: 10th July 2021.

Cash discount = Price x Discount rate

                         = ₹6,000 * 4/100

                        = ₹240

             Amount effectively paid by the buyer = Bill value (- ) Cash discount

                                                                        = ₹6,000 - ₹240

                                                                        = ₹5,760

Q: What are cash discounts?

Ans:

Cash discounts, also called 'early payment discounts' or 'prompt payment disc ounts', refer to an inducement offered by a seller of goods or service providers to a buyer to motivate him to pay a bill before the scheduled due date. The seller reduces the unpaid amount by a certain percentage, thus offering a price reduction called cash discounts.

Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.
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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.