The practice works out somewhat as follows. A merchant desiring to discount his accounts turns over to the credit company with whom he has made the arrangement, the invoices of all accounts to be discounted as evidence of the sales just made to customers. The credit company on the strength of these invoices advances anywhere from 70% to 80% of their face value, thus maintaining a margin of safety of from 20% to 30%. The charge made is called commission rather than interest, and varies from 2% to 5%. To protect the credit company, frequently such invoices, as they go out to customers, bear a notation to the effect that payment of the bill is to be made to the credit company and not to the merchant selling the goods. An obvious and serious objection to this practice is that it gives the customer information as to the method of financing to which the seller has been reduced. In view of this objection a few bankers are willing for payment to be made as usual to the merchant, who must in turn transfer the identical item or the merchant’s own check for an equivalent amount to the banker. A periodical settlement with the banker secures from him a statement and return of the moneys held by way of margin. The accounts as settled are paid in full to the banker who has previously furnished, say, 70% of their face value in cash to the merchant. The banker thus holds 30% more money than he has furnished to the merchant, and as these margins accumulate it may sometimes happen that the banker is loaning the merchant the latter’s own money. Consequently, it becomes imperative for the merchant to keep careful record of all accounts discounted with, and of their payment to, the banker so that he can protect himself by requiring a settlement as may be shown necessary.
Accounting for Accounts Receivable Discounted
The accounting procedure in keeping track of these items is very similar to that for notes receivable discounted. Inasmuch as the practice does not involve an outright sale of the accounts to the banker, a contingent liability is created in case the customer does not pay his account, which the merchant will have to make good to the banker just as in the case of notes receivable unpaid at maturity. The bookkeeping record of discounted accounts may be considered under four aspects:
1. At the time of discount.
2. At the time of the banker’s report of customers’ payments.
3. At the time an account is charged back by the banker because of inability to collect.
4. At the time of final settlement with the bankers.
1. At the time a group of accounts is discounted the charges are to Cash for the amount of cash received, to Commissions Paid on Discounted Accounts for the amount of commission, and a charge to the Bankers or to a Bankers’ Margin account for the margin. The credit offsetting these debits is to an account called Customers’ Accounts Discounted. No further entry is necessary until the banker’s report of customers’ payments.
2. At the time an account is reported as paid by the banker, the contingent liability thereon as carried in the Customers’ Accounts Discounted account has ceased to exist and a reversing entry becomes necessary, Customers’ Accounts Discounted is charged, and the customer’s account is credited.
3. When an account is not collected and is charged back by the banker, the contingent liability as carried under Customers’ Accounts Discounted becomes a real liability which has to be settled by payment to the banker of the amount of the cash originally advanced by him at the time of discount. At such a time the entry made will be a debit to Customers’ Accounts Discounted offset by credits to Cash and to Bankers or Bankers’ Margin account, as the case may be.