7.1 SALES RETURNS AND CREDIT NOTES TO CUSTOMERS

It is quite common in business for a customer to return goods to a supplier, perhaps because some of the goods are faulty, or not what the customer ordered. Sometimes, goods are sold to a retailer on a 'sale or return' basis, which means that if the retailer doesn't resell the goods within an agreed period of time, they can be return the goods to the supplier.

Suppose for example that a book publisher sells 100 copies of a book on credit to a book distributor at a price of $15 per book on a 'sale or return' basis. The publisher will initially send an invoice to the distributor for $1,500. Some weeks later, the distributor may send back 20 of the books because they were not needed and there is a sale or return agreement in place. The amount owed by the distributor is now just $1,200, not $1.500.

It might seem logical to suppose that the publisher will issue a new invoice for $1,200 to replace the original invoice for $1,500. However, if the book distributor is a regular customer of the publisher (an 'account customer'), this isn't what happens. Instead of issuing a new invoice to replace the old invoice:

• the original invoice for $1,500 remains valid
• the publisher issues a document called a credit note. In this example, the credit note will be for $300 (20 books at $15 each). A credit note could be described as a negative invoice. It is a statement that the supplier (the book publisher in this example) is reducing the amount owed by the customer. Here, the effect of the credit note is to reduce the amount owing on the book distributor's 'account' by $300, so the net amount owed by the book distributor is just $1,200 ($1,500 $300).

A credit note looks similar to a sales invoice. An example of a credit note is shown below. This has been issued by a supplier of office stationery, to an account customer who has returned some items of stationery that had been purchased but had been damaged in transit.