Installment Sales & Consignment

CHAPTER THREE:
INSTALLMENT SALES & CONSIGNMENT

Objectives:
At the end of this chapter, you will be able to:
• define installment sales;
• discuss the profit measurement under installment method;
• discuss the features of consignment sales;
• discuss the accounting for consignment by consignor and
consignee
Records.
03/26/2024
Installment sales & Consignment
For many business enterprises, installment sales have been key
factor in achieving large-scale operations. Common in
electronic merchandising company in Ethiopia
Installment sales create some difficulties in revenue
recognition like
- When should the gross profit from installment sales be
recognized?
- What should be done with costs that occur in periods
subsequent to the sale?
- How should defaults, trade-ins, and repossessions be 03/26/2024
recorded?
Installment sales & consignment
Characteristics of Installment Sales
Installment sales involve a financing agreement whereby the
customer signs a contract,... ...makes a small down payment,... …
and agrees to make periodic payments over an extended period,
often several years.
• Significant Uncertainty of Collectability, When uncertainties about
collectability exist, revenue recognition is delayed.
• Security agreement and repossession
• Competitive pressures in an industry often will not permit a business
enterprise to adhere to rigid credit standards.
• Increased collection costs like accounting cost
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Realization of Gross Profit on Installment Sales
The measurement of income from installment sales is complicated
by the fact that the amounts of revenue and related costs and
expenses seldom are known in the accounting period when
installment sales are made.
Basic objective in the development of accounting policies for
installment sales should be a reasonable matching of expenses
and revenue. Three approaches for recognition of gross profit on
installment sales: (1) the accrual basis of accounting,
(2) the cost recovery method of accounting, and
(3) the installment method of accounting. 03/26/2024
(1) Accrual basis of accounting,
Recognize the entire gross profit as realized at the time of an
installment sale (similar to sales on credit) The merchandise has
been delivered to customers, and installment receivables of
definite amount have been acquired. The excess of the installment
receivables over the cost of merchandise sold is realized gross
profit in the traditional meaning of the term.
- the entry will include
Installment receivables………………………………….. xxx
Installment Sales…………………………………………….. xxx
Cost of installment sales account…………………… xxx
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Inventories…………………………………………… xxx (under perpetual system

(2) cost recovery method of accounting
If receivable is collectible over long period, terms of sale are not
definite, and the financial position of customers is unpredictable.
APB Opinion No. 10 found the cost recovery method of
recognizing revenue generally to be unacceptable. However,
the Board did agree that this method could be used in
exceptional cases where receivables are collected over an
extended period and where the terms of the transaction
provide no reasonable basis for estimating the degree of
collectability.
Under Cost recovery method, no profit is recognized until all costs
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EXAMPLE on cost recovery method Consider the following
information for the Parken Company:
Sale of property under cost recovery method $20,000
Cost of property sold (net) 12,000
Cash collections:
2007 5,000
2008 9,000
2009 6,000
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Solution:
During 2007
Account receivable…….20,000
Deferred gross profit………8000
Property……......................12,000
Collection of $5000
Cash……………………………….5000
Account receivable………… ……………5000
During 2008
Cash……………………………………9000
Account receivable………………………………9000
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During Dec,2008
Deferred gross profit……………………..2000
Gross profit realized on cost recovery transaction……..2000
During 2009
Cash…………………………………….6000
Account receivable………………………6000
Dec31,2009
Deferred gross profit…………………………………..6000
Gross profit realized on cost recovery transaction……6000
The cash collected in 2009 results in the recognition of an equal amount of
gross profit.
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(3) Installment method of accounting(modified cash basis)
The installment sales method recognizes the gross profit by applying the gross profit
percentage on the sale to the amount of cash actually collected.
Instalment Sales Accounting Problems
1. Interest on instalment contracts
Accounted for separately from the gross profit
Recognized when cash is collected, as Interest Revenue
2. Uncollectible accounts
Through the use of a special bad debts expense account
3. Defaults and repossessions
On repossession, the Account Receivable and related deferred
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Example: ABC, Inc. had the following installment sales in addition to its regular sales.
2005 2006 2007

Installment sales $200,000 $250,000 $275,000
Cost of sales 155,000 190,000 220,000
Gross profit $45,000 $60,000 $55,000
Gross profit percentage 22.50% 24.00% 20.00%
$45,000 ÷ $200,000 = 22.50%
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ABC, Inc. had the following installment

sales in addition to its regular sales.
2005 2006 2007
Installment sales $200,000 $250,000 $275,000
Cost of sales 155,000 190,000 220,000
Gross profit $45,000 $60,000 $55,000
Gross profit percentage 22.50% 24.00% 20.00%
Cash Collections
2005 2006 2007
At Dec. 31, 2007,
Installment sales $ 200,000 $ 250,000 $ 275,000 ABC , Inc. is still
Cash Collected: owed $30,000 from
From 2005 Sales (100,000) (50,000) (50,000) the 2006 sales and
From 2006 Sales (195,000) (25,000)
From 2007 Sales (200,000) $75,000 from the 03/26/2024
2007 sales.
General Journal
Description Debit Credit
Installment sales receivable 2005 200,000
Inventory 155,000
Deferred gross profit 2005 45,000
Deferred gross profit is the difference

between the selling price and the cost of the
inventory.
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Installment Sales Method
During 2005, ABC collected $100,000
on its installment sales.
General Journal
Inventory 155,000
Cash 100,000

Realized gross profit 22,500
($100,000 collected x 22.50%)
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This entry records the Realized Gross Profit by
During 2006, ABC sold $250,000 on installments and collected
$50,000 on its 2005 installment sales and $195,000 on its 2006
installment sales.
General Journal
Inventory 190,000
Cash 245,000

Cash collections - 2005 $ 50,000 × 22.50% = $ 11,250

Cash collections - 2006 195,000 × 24.00% = 46,800
$ 58,050 03/26/2024
General Journal
Inventory 220,000
Cash 275,000

Cash Collection on Installment Sales in 2007
2005 $ 50,000 × 22.50% = $ 11,250
2006 25,000 × 24.00% = 6,000
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2007 200,000 × 20.00% = 40,000
$ 275,000 $ 57,250
De ferred Gross Profit 2005
2005 22,500 45,000 2005
2006 11,250
2007 11,250
-
De fe rre d Gross Profit 2006

2006 46,800 60,000 2006
2007 6,000
7,200
14,400
De fe rre d Gross Profit 2007

2007 40,000 55,000 2007
15,000
30,000
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Balance Sheet
Installment accounts receivable $ 105,000
Less: Deferred gross profit (22,200)
Net Installment accounts receivable $ 82,800
Installment sales receivable 2006 $ 30,000

Installment accounts receivable $ 105,000
Deferred gross profit 2006 $ 7,200

Deferred gross profit $ 22,200
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This method is acceptable for income tax reporting purposes. However, it
couldn't be used for financial reporting unless:
(1) collection of installment receivables is not reasonably assured,
(2) installment receivables are collectible over an extended period of time,
and
(3) there is no reasonable basis for estimating the degree of collectability of
the installment receivables.
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Defaults and Repossessions
If a customer defaults on an installment contract for services and no
further collection can be made,
In such condition the journal entry will be:
 write off the uncollectible installment receivable, cancel the deferred
gross profit related to the receivable, and debit Doubtful Installment
Receivable Expense for the difference.
If there is the occurrence of repossession of merchandise:
 doubtful installment receivable expense is reduced by the net
realizable value of the merchandise repossessed,
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Other Accounting Issues Relating to Installment sales
 Trade-ins, An accounting problem exists only if the dealer

grants an over allowance on the used car taken in trade
 Interest on Installment Receivables, Different plans could be
used for the arrangement for adding interest to installment
receivables
 Installment Method for Income Tax Purposes Only, The
installment method of accounting is widely used for income
tax purposes because it postpones the payment of income
taxes.
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Section Two - Consignments

 The term consignment means a transfer of possession of
merchandise from the owner to another person who acts as the
sales agent of the owner. Title to the merchandise remains with
the owner, who is called a consignor; the sales agent who has
possession of the merchandise is called a consignee. The
relationship between the consignor & the consignee is that of
principal and agent
 The shipment of merchandise on consignment may be referred to
by the consignor as a consignment out, and by the consignee as a
03/26/2024
consignment in.
 Distinguishing between a Consignment and a Sale
Title of merchandise remained in cosigners
Merchandise inventory is not included in the consignee
inventory
No revenue recognized
Why Consignments (why not sale)?
Cosigners side consignee side
To increase dealers willingness no capital is required
Fear of credit risk to avoid the risk of loss
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Rights and Duties of the Consignee
Rights of Consignee
 receive compensation
 To receive reimbursement
 To sell consigned merchandise on credit
 To make the usual warranties
duties of Consignee
 - To give care and protection reasonable
 To keep the consigned merchandise separate
 Identify and segregate the consignment trade accounts receivable
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 To use care in extending credit

 The report rendered by the consignee is called an account sales;
it include the quantity of merchandise received and sold,
expenditures made, advances made, and amounts owed or
remitted
Accounting for Consignees
 The consignment of the shipment of merchandise may be
recorded by the consignee in any of several ways. The objective
is to create a memorandum record of the consigned
merchandise; no purchase has been made and no liability exists.
memorandum entry in a general ledger account entitled
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Consignment In - followed by name of consignor .

In the later approach, only memorandum entry is required
in the general ledger account -Consignment In. This
account will be debited for transactions such as payment
of freight costs made by consignee on shipment from
consignor, commission on consignment sales, and
remittance or advance to Consignor. The account will be
credited for transactions like sales of consigned goods (at
the total selling price).
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 Accounting for Consignors
When a consignor ship merchandise to consignees, it is
essential to have a record of the location of this portion of
inventories. Therefore, the consignor may establish in the
general ledger a Consignment Out account for every
consignee (or every shipment on consignment). The
Consignment Out ledger account represents special
category of inventories.
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 Separate Measurement of Gross Profit
Separate measurement of gross profit on consignment sales is
not same as separate measurement of net income on
consignment sales. Separate measurement of net income from
consignment sales is not justifiable, as it requires arbitrary
allocation of many operating expenses
The choice of accounting method by a consignor depends on
whether (1) consignment gross profits are measured separately
from gross profits on regular sales or (2) sales on consignment
are combined with regular sales without any effort to measure
gross profits separately for the two categories of sales. 03/26/2024
Thank you for all your attention!!!!!!
Please pay attention on all the

problems and illustration???
03/26/2024

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CHAPTER THREE:

INSTALLMENT SALES & CONSIGNMENT

Inventories…………………………………………… xxx (under perpetual system

2005 2006 2007

$45,000 ÷ $200,000 = 22.50%

ABC, Inc. had the following installment

Deferred gross profit is the difference

Deferred gross profit 2005 22,500

Deferred gross profit 2005 11,250

Cash collections - 2005 $ 50,000 × 22.50% = $ 11,250

Deferred gross profit 2005 11,250

De fe rre d Gross Profit 2006

De fe rre d Gross Profit 2007

Installment sales receivable 2006 $ 30,000

Deferred gross profit 2006 $ 7,200

 Trade-ins, An accounting problem exists only if the dealer

Section Two - Consignments

 To use care in extending credit

Consignment In - followed by name of consignor .

Please pay attention on all the

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