How to Record a Credit Memo Journal Entry

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A credit memorandum, aka credit memo, is an articulated form indicating an amount the contractor owes to the client. And recording a credit memo journal entry is a must for an income statement or net sales revenue.

Not everyone knows how to record an accounting entry, which is why we have written this article. It helps record a certain transaction to maintain the financial statements. Plus, we have also shared how to make an entry if you are a client in the case of the credit memorandum issue.

So let’s know both the seller and the buyer side.

How to Handle a Credit Note

Credit memos or notes are issued by contractors to the customer when the latter party informs to stop providing services in the middle of the tasks due to multiple reasons, such as

  • services not up to the expectations
  • not meeting deadlines
  • price offered is higher than market rate

Besides, handling a credit memo involves two crucial things:

So let’s have a look at the scenario when you are the customer:

If you are a customer availing services from a contractor, and you immediately inform them to stop offering services, you would be entitled to receive the amount that you already paid for.

The supplier is no longer your creditor, rather, you are his/her creditor. You can always ask for payment or goods or services.

When you are a customer of the goods or services and a credit memo is issued, make necessary accounting entries in your books.

Entry Debit Credit
Creditor’s A/C XXX
Purchase Return A/C XXX

When you are the contractor:

When you issue a credit memo for goods return or stopping the services, the accounting entry would be

Entry Debit Credit
Sales Return A/C XXX
Accounts Receivable A/C XXX

Here, the buyer’s account is credited and the sales return account is debited when the buyer returns the goods.

Useful reading

Review all the outstanding credit memorandums at the end of the month. Make sure you apply for credits as the buyer makes another purchase or demands a refund. This habit makes your general ledger look cleaner and better.

Now that you know how to make accounting entries in different scenarios, let’s also look at the benefits of recording entries.

Importance of Recording Credit Memo Entries

Credit memos are issued only when the product is returned due to being damaged or faulty. Or when there is an intimation from the customer’s end about not wanting to continue services.

The scenarios could be either the services/goods are not up to the mark, manufactured or packed properly, or there can be chances that your shippers mishandle them.

Another alarming situation could be when the number of credit memorandums is issued way higher than the average. In this case, the bookkeeping department might be committing some fraud.

Apart from this, the higher the credit notes issued, the lesser the actual sales. It also means the business is financially unstable. It can affect you when applying for loans or credit extensions from your suppliers. Another dent to your goodwill is big sharks may show less or no interest in your company.


Note

Make sure you scrutinize your income statement and balance sheet to ensure everything is clear and transparent.

Since it is important to maintain the balance sheet and financial statements, you must automate your accounting software. Automating efficiently manages your general ledger.

Plus, the automation eliminates manual work and bookkeepers, eventually removing the frauds that might be committed by manpower. Another benefit of Automating is it ensures a proper application of credit memos.

In nutshell, these are the main benefits or importance of maintaining credit memo journal entries.

  • Maintaining Sound Business Health
  • Eliminating Malicious Activities
  • High Chances of Loans & Credit Extention from Banks

Without beating around the bush, let’s quickly know the entries to record in the books of accounts.

Journal Entries for Certain Transactions

Businesses have several transactions, out of which, sales returns are one of them, which happens due to several reasons. Recording transactions for financial records is a must not only for future references but also for taxation purposes.

So here are the three main reasons for sales return and require to issue a credit memorandum.

  1. Overstated amount in the original invoice

    If the contractor mistakenly charges a higher price than what is fixed, it can issue a credit memo stating overstatement as a reason. Now the entry would be:

    Entry Debit Credit
    Sales Revenue XXX
    Accounts Receivable XXX

    Here, the sales revenue account has been debited, and the accounts receivable have been credited with the difference amount.

    For better understanding, we have created an example:

    Contractor A sold goods or services at $500 to company B, which actually costs $300. When found by Company A, they issued a credit memo stating the reason as overstatement. In this case, company A owes $200 to company B.

    For recording this transaction, they have made necessary entries.

    Entry Debit Credit
    Sales Return $200
    Accounts Receivable $200

    If you are preparing the necessary account for sales returns and allowances, then the entry would be:

  2. Discount applied

    Another reason for issuing credit memo and recording entry could be a discount applied or allowed or forgot to apply in the original invoice.

    The entry for such would be:

    Entry Debit Credit
    Discount Allowed XXX
    Accounts Receivable XXX

    For example, an invoice of $1000 has been generated by Company A and payment has been made by Company B. Due to good relations between both parties, company A decided to offer 10% discount to Company B.

    In the above case, the entry would be:

    Entry Debit Credit
    Discount Allowed $100
    Accounts Receivable $100
  3. Goods return

    Lastly, when the buyer receives damaged goods, incomplete order or the goods don’t match the buyer’s expectations.

    Entry Debit Credit
    Sales Return XXX
    Accounts Receivable XXX

    For example, Company A sells goods worth $1000 to Company B and an invoice has been generated. After a week, the goods were returned by Company B stating they were damaged for which Company A issued a credit memo.

    The entry for this transaction is:

    Entry Debit Credit
    Sales Revenue $1000
    Accounts Receivable $1000

    That’s how you will record journal entries for credit memo. Adding entries in your books of accounts will help you knowing your right sales and revenue. If you still have any questions, you can go through the next section.

Frequently Asked Questions
  1. What is the accounting entry for a credit memorandum?

    Here is a quick example to clearly understand the accounting entry:

    Entry Debit Credit
    Sales Return & Allowance XXX
    Accounts Receivable XXX

  2. Which account shall I record the credit memo?

    As a seller, you must credit the accounts receivables, while as a buyer, you need to debit accounts payable.


  3. Is a credit memo a debit or credit?

    A credit memo is an invoice indicating a negative amount that is yet to receive from a supplier, which depicts credit. So basically, a credit memo is a credit.


  4. Is a refund means a credit memo?

    A credit memo indicates that a supplier is obliged to pay a specific amount against the return of the goods. It depends on the buyer whether he/she wants a full refund or another order.


  5. Is a credit memo a sales invoice?

    No, the credit memo is not a sales or original invoice. The requirement to issue a credit memo comes into the picture when the already generated invoice goes wrong. It means when the goods are purchased, payment is made, and then the buyer returns the goods.


  6. What is the meaning of a credit memo?

    A contractor issues a credit memo to the client. With the issue, the memo reduces the amount that the client owes to the contractor.


  7. Is a credit memo a receipt?

    A credit memo depicts a credit on the buyer’s account. When the invoice goes wrong and needs to be written off, you issue a credit memo. It means you have to credit your customer’s account.


  8. Can a credit memo be reused?

    No, you cannot reuse a credit memo. Plus, you cannot void the credit memo.

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Conclusion

Any transaction that happens in the business should have accounting records. A credit memo is one of the transactions that take place post-sales when the customer sends back the goods, mentioning a reason for return. The credit note indicates the buyer’s outstanding balance, dates, sales price, and customer details.

If you want to quickly create a credit note, you can and create unlimited credit memorandums.

Author Bio
Jeel Patel
Jeel Patel
Founder

Jeel Patel is the Founder of InvoiceOwl and is the main curator & writer of the content found on this site. With ideals of quality, commitment, and perseverance, he believes in creating lasting business relationships with the clients.

United States

San Jose

US