Credit Sales

Credit Sales refer to sales in which the customer or purchaser is allowed to make payment later instead of at the purchase time. In this sale, the customer gets adequate time to make payment.

• Credit Limit – The credit limit is the maximum amount the company can sell its material to a particular customer as credit sales.
• Credit Period – Credit period refers to days under which the customer has to make payment to the seller or when payment will be due for credit sales.

• Credit sales mean sales in which the customer or purchaser can make payment later rather than at the purchase time. In this sale, the customer has sufficient time to make the payment.
• Credit limit and credit period are the terms related to credit sales.
• In these sales, there is always a bad debt risk. If a customer cannot pay, do fraud, or is untraceable, it may be challenging to obtain money. As a result, it will become a bad debt and increase the cost of capital if customers pay after 15 days or 30 days, based on the credit terms.

Credit sales are a type of sales in which companies sell goods to the customer on credit based on the credibility of customers. It gives the customer time to make the payment after selling the purchased goods and does not require them to invest their own money into a business. It helps small businesses, especially those that do not have enough capital. At the same, it helps big companies also because it attracts customers.

In credit sales, there is always a risk of bad debt. If a customer cannot make a payment, commits fraud, or is not traceable, it will be challenging to get money. It will become a bad debt in that situation. It can also increase the cost of capital cost if customers pay after 15 days or 30 days, depending on their credit terms. In such a scenario, a company's capital gets blocked, and interest is lost. So, it is an excellent yet costly option for new companies.

Below is the journal entry for recording credit sales in the books of account:

The following are credit sales journal entry examples to understand the concept better:

Example #1

Walter is a dealer of mobile phones, and he is selling goods to Smith on January 1, 2018, for $5,000 on credit; his credit period is 30 days, which means Smith has to make the payment on or before January 30, 2018.

Below are the journal entries in their books of Walter:

Example #2

Usually, a company gives a cash discount or an early payment discount. In the above example, Walter is offering a 10% discount if Smith makes the payment on or before January 10, 2018. Accordingly, Smith made his payment on January 10, 2018.

Below are the journal entries in their books of Walter.

Example #3

Let’s assume in the above example that Smith cannot make payment by January 30, 2018, as he has gone bankrupt. Now, Walter believes that the outstanding amount is unrecoverable and is bad debt now.

Below are the journal entries in their books of Walter:

Walter will pass entry for the bad debt at the end of the financial year:

• Credit sales with good credit policies give competitive advantages to the organization.
• Such policies help newly set up organizations in increasing sales.
• It develops trust and relationships between the customer and the company.
• It helps those customers who do not have enough cash to make payment at the time of purchase and can make payment after 15 or 30 days as per the credit term..
• Longer credit days help attract new customers.

• There is always a risk of bad debt.
• It affects the company's cash flow because payment is received later.
• The company must incur expenses on the collection agency for regular follow-up with customers for their outstanding amounts.
• The company has to maintain separate books of accounts for accounts receivable.
• There is a notional loss of interest during the credit period because money is blocked.

• Credit Sales – It will show in the credit side of profit & loss a/c.
• Debtors – Debtors will show on the assets side of the balance sheet under current assets if there is any outstanding on the balance sheet date.
• Cash Discount – Cash discount will show the debit side of profit & loss a/c.
• Bad Debt – Bad debt will show a debit side of profit & loss a/c, and the same amount will reduce from debtors in the balance sheet.

It has been a guide to what credit sales are and their meaning. Here we explain how to record credit sales in the Balance Sheet along with examples, advantages, and disadvantages. You can learn more about accounting from the following articles –

• Net Credit Sales
• Advantages of Debit Entry in Accounting
• Accounts Receivable - Debit or Credit?
• Line of Credit Examples