I think your best bet is to issue an invoice as you normally do and then give a discount to offset the full amount. That way the discount expense account will represent how much free services you are providing. You may also have a special income account for this type of pro bono work. You may also want to display the discount expense account directly under the income account with a 'less in front so you can always see they contra each other.
Totally agree with @Brucanna. You canât create an invoice for , letâs say $1,000 and a discount for the same amount. Itâs just not reasonable. You can give a discount of XX% to any customer and in that case you can have the Revenue $1,000 and discount for -$500, for example, and a net sales of $500. But if youâre giving away your product, thatâs not a discount. Many businesses do this for marketing purposes and in this case it seems to be a legitimate marketing purpose, so youâll have the income for $1,000 and a marketing expense for $500. The same apply with the exchange of services, for example. Youâll have an income even if you donât really receive the money and you will have an expense even if you donât spend the money. But anyways, in this case, I have worked with a client with this specific case in where he gives away his product for promotions and it worked. People receive the items and they promote you better than a billboard, so youâll have an income and youâll have a marketing expense, the same way exchanges of services works.
The whole issue is in recognizing the revenue which isnât there. Giving an item away for free for any purpose (Gift/Marketing/Freebie) is ultimately no revenue. Any expenses in conducting this activity is at cost and not at price. Therefore, any free items should be recognized at cost and not at price.
Giving away something (Price-10, Cost-8) for free results into a loss of 8 and not 10. This is the whole thing I am concerned about. In all your examples, you are suggesting a loss of 10 which is incorrect.
When I say people can inflate accounts, let me back that up. I could price my regular sold items at 10 and freebies at 100 (Pricing is in my control). I can then show these as marketing expenses and reduce my overall profit and thereby impacting my tax outgo.
As stated previously you keep mixing up products with services.
With products, when given away the product is recognized at cost as it has a cost and there is no revenue.
With services (vouchers) when given away the service is recognized at price as it doesnât have a cost and there is forgone revenue.
If you inflated your freebies to 100 for marketing purposes, that expense is a Debit, where are you putting the matching inflated Credit - being double entry accounting. This Credit entry canât be allocated to a BS Asset or Liability account so the only other option is a Revenue account - therefore the impact on profit/tax is zero as Credit Revenue = Debit Expense
It applies to Services too. I run a business of services. My cost is made up of variable and fixed costs. Variable costs consist of server costs while Fixed costs are made up of salaries, rent etc.
If I give away some services for free, the losses are still limited to my costs and not on price. All I get to lose are my fixed cost & related variable costs.
Price is inclusive of expected profits and thus cannot be used to calculated loss due to free service or product.
Yes it can, lets say you had a service that was worth 100, but to market your business you decided to give that service away for free. After the completion of that free service (all variable & fixed costs paid) your business profits totalled 1200. Therefore, If you had invoiced for that service your business profits would have been1300 - or another words the profit forgone = 100.
Now lets say you want to reflect in your business accounts the value of the income forgone by not invoicing for these free services. You would Credit Income account 100 and you would Debit Marketing account 100. Therefore the Marketing account would represent the profit forgone not an actual paid expense. The business profit stills remains at 1200
Alternatively you could Credit an Income Forgone account and Debit a Profit Forgone account - but Marketing or Promotions describes the actual activity untaken rather then the financial outcome.
As I mentioned before, if you want to track free services then issue an invoice and discount it to nil. The costs associated with delivering all your services will be treated as expenses when they are incurred. Your net profit will not change as a result of rendering an invoice and then discounting it to nil, but your P&L will show how much free services you delivered. Youâre client might also be appreciative to see you did some work and its value and the discount you provided. The idea is to keep this whole process as simple as possible.
@Brucanna, Adding 100 in Revenue and then adding that 100 in Marketing expenses is not correct. It goes against the âConservatism principleâ of accounting. A revenue shouldnât be recognized till it is actually due. If anything was given for free, it cannot be accounted as revenue (forgone or actual - any form).
@sam, Yes. You are right. I completely agree that we should issue an invoice for full value and discount it to nil. This way, it will not be showing into revenue in P&L.
Recognizing free product/service amount as revenue and then showing additional expenses to adjust that, is incorrect.
I am not proposing you add anything to expenses. Expenses are recognized as and when they are incurred. What I did say is that for reporting purposes you create, for example, an income account called âSpecial Servicesâ (free services).
You then issue an invoice, again for example, for $1000 and on the line just below this charge you allow a Discount which is debited to and account called âDiscounts on Special Servicesâ for $1000. The invoice is for nil.
However, not to distort income and expenses both these accounts are created as income accounts, one after the other, so they offset each other.
In this way nothing is actually recognized as revenue in the true sense, but you get the disclosure and statistic you are looking for in your P&L
No accounting principle(s) in what I am suggesting has been violated.
REVENUE:
Sales $50000
Special Services $1000
Special Services Discounts ($1000)
Total Revenue $50000
DONâT OFFSET THE DISCOUNT AGAINST AN ACTUAL EXPENSE YOU ACTUALLY INCURRED TO DELIVER THE FREE SERVICE. FOR TAX PURPOSES IT MAY NOT MAKE A DIFFERENCE, BUT WE DONâT WANT TO DISTORT ACTUAL EXPENDITURE OR FACTS.
@sam I agree. This is the correct way. @Brucanna is suggesting to include the amount into revenue and show the same amount in marketing expense to offset. I do not agree with that.
First of all, apologies for bothering you people on a two years old discussion, but a question was bothering me from some time. I am using manager for managing accounting needs of a school. Its a small setup an is utilizing Cash Based Accounting. In my context, i come across cases of âFee Concessionsâ and âFull Fee Concessionâ. I want to make a new account in Expenses group namely âConcession Expensesâ in order to account for concession given to the student by the school. I have read the discussion previously done, but @shekharsom point of view seems more valid to me. As you people know, by giving concession we are spending on a customer by providing free services and in the same time we are also paying costs of those free services, (which in my case are staff salaries and other student needs, stationery, paper etc) so i do not find feasible to use the contra revenue account approach, instead i want to expense such concessions, would it be a right approach?
Contra Expense?
1.Debit (Salary/Stationery/Fuel) or Having Group account named (Concession Fee) while under it create additional expense account (Salary/Stationery/Fuel) to separate with normal operation.
Credit (Cash/Bank)
2.Debit (Promotion/Marketing Expense/Concession Expense)
Credit (Salary/Stationery/Fuel) or Having Group account named (Concession Fee) while under it create additional expense account (Salary/Stationery/Fuel) to separate with normal operation.
For no. 1 do it via Receipt and Payment Tab Normally. For No.2, create the entry via journal entry tab.
In the end of the day (Concession Fee) is just a clearing account.
The Sum of it:
Debit (Promotion/Marketing Expense/Concession Expense)
Credit (Cash/Bank)
Another way around, Direct Method would be create Group Account named (Concession Expense) with all the operation expense. Then create entry via receipt and payment tab.
The different of these approach is the details to be disclose in PnL report though.
As far of how I understand you can have expenses based on project basis. where there is a lot of group accounts in P n L. Alternatively use track code.
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Thanks for the response 
. I think second method is easier to digest. I will make an expense account âFee Concession Expenseâ and debit it with a lump sum service expense. Otherwise if i made subgroups, i would then have to do costing for each service and then debit those expense sub accounts with the cost. Oh and yes i will use payments & receipts for the purpose.
You have attached your question to a lengthy topic. If you read the earlier posts, they contain some common themes:
- You cannot record the giveaway of a service as an expense in an isolated way. You had no expense directly associated with the service. Staff salaries, paper, and so forth are already recorded separately as expenses. So there is nothing additional to record. Doing that would double-count your expenses.
- If you want to track such concessions, you must first record the income you would have received without the concession, then subtract the discount to offset the income. That leaves a net zero profit for the pair of line items. You can effectively do this just by applying a 100% discount to the revenue item, but you lose visibility into the concession. So you can use the negative entry approach, posting to a dedicated expense account instead. You could also use a contra income account in place of that expense account.
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Thanks a lot for the pain you have taken to again comment on a lengthy topic. But, yes i got your point, obviously such expense will be double counted, so i guess its better to leave it the way it is, unless we have to get figures for the social work the organization is doing, in that case your prescribed approach will be used to differentiate the charity work from regular operations.