Sometimes, goods previously sold on credit by the business are returned because they are: (1) defective or of faulty construction; (2) of wrong specification, type, quality, size; or (3) damaged packing cases or empty bottles or containers are also returned.
The business normally agrees to accept these goods though, in some cases, it is not bound by law to do so. The business wants to maintain its good reputation so that customers will continue to buy goods from it.
When the business accepts these goods, it sends a credit note to inform the customer that his account in the books of the business will be credited. His account is credited because when he returns the goods to the business, the amount that he owes the business is reduced.
The amount to be credited is the value of the goods returned minus the trade discount given, if any, when the goods were originally sold. Do not forget that it is this net amount that has to be credited to the customer's account. The trade discount is never shown in the ledger.
A credit note is a document that is sent by the seller to the buyer to inform the latter that his account is credited in the former's books. This will reduce the amount owing by the buyer. It is sent when the buyer returns the goods to the seller or when the goods sold have been over-charged in the invoice. To distinguish a credit note from an invoice, the former is printed in red.
Return of goods previously sold is recorded into a special journal called the Returns Inwards Journal or Sales Returns Book. The Returns Inwards Journal also records any reduction in a customer's account when the business discovers that it has over-charged the customers.
The Returns Inwards Journal is recorded from copies of credit notes which are sent to customers who have returned goods or have been over-charged.
Sometimes, business may return to the supplier, goods it has previously bought on credit. The reasons for returning these goods are similar to those given by its customers when they returned the goods.
In theory, the business can send a debit note to the supplier to whom it has returned the goods, to inform the latter that his account has been debited. It is debited because the business is reducing the amount it owes its supplier when it returns goods to the latter.
In practice, the business does not sent a debit note to its supplier when it returns the goods. Instead, it will write a letter informing the supplier that goods of a certain value and type are being returned and the reason for the return of the goods. It will then wait for the supplier to send it a credit note informing it that its account in the supplier's books has been credited.
If the business discovers that it has been overcharged in the invoice by the supplier, it will either send a debit note to the supplier or send the supplier a letter informing him of the amount of the overcharge. The supplier will then send the business a credit note.
All records of the goods returned by the business to its suppliers and amounts due to overcharging by the supplier are kept in a special journal called the Returns Outwards Journal or Purchases Returns Book. The Purchases Returns Book is written up from the credit notes received from the suppliers.
records, in chronological order, the names of customers and the amounts of goods which they have returned;
shows entries recorded at list price less any trade discount given ;
shows entries supported by credit notes which are sent to these customers.
The net amount of returns of individual customers is posted to their individual accounts in the Sales Ledger which at the end of a certain period, the total amount of sales returns is posted to the Returns Inwards Account in the General Ledger.
The Returns Outwards Journal (Purchases Returns Journal) -
records, in chronological order, the names of suppliers and the amounts of goods which were returned to them;
shows entries recorded at list price less any trade discount given;
shows entries supported by credit notes which are received from these suppliers.