COLLEGE OF ACCOUNTANCY

C-AE13: Financial Accounting and Reporting

First Semester | AY 2020-2021

Module 13

A. Course Code – Title : C-AE13: Financial Accounting and Reporting

B. Module No – Title : M13 –Other Merchandising Transactions
C. Time Frame : 1 week (Week 12 ) – 6 hrs
D. Materials : Course Syllabus

1. Overview
This learning material provides a comprehensive discussion and illustration of the
terms of shipment for goods sold/bought, (FOB Shipping Point and FOB Destination), as
well as the two inventory systems, periodic and perpetual, and value-added tax (VAT).
You should read clearly and understand well the topics explained herein. It is also expected
that you answer the assigned problems and exercises. Please continue to read Chapter 7 of
your textbook.

2. Desired Learning Outcomes

At the end of the learning session, I can:
a) Differentiate between FOB shipping point and FOB destination;
b) Describe the inventory system using the periodic and perpetual inventory
methods;
c) Record correctly the regular sales and purchase transactions of a merchandising
concern under the periodic and perpetual inventory systems; and,
d) Analyze properly the effects of value-added tax on sales and purchases transactions.

3. Content/Discussion

Lesson 1 – Terms of Shipment

A) Freight In –FOB (Free on board) Shipping Point

When the buyer acquires goods or merchandise, he/she must also acquire title
of ownership to the goods purchased. If the term of shipment is FOB Shipping
Point, the title of ownership to the goods passes from the seller to the buyer the
moment the former (seller) turns over the goods to the common carrier, such as
a cargo plane, ship, delivery truck, or whatever is the means of transporting
the goods from the place of the seller to that of the buyer. Therefore, when the

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

goods are loaded in the carrier, the buyer is already the owner of the goods. So,
as the owner of the goods, the buyer should pay for the freight. To record the
payment of the freight, the entry on the books of the buyer is:

Freight In 1,000
Cash 1,000

To complete the term of the shipment above, it is FOB Shipping Point, Freight
collect, which means that the common carrier should get the freight payment
from the buyer. What if the term is FOB Shipping Point, but the seller paid the
freight? This term is FOB Shipping Point, freight prepaid. In this case, it is still the
buyer who is obliged to pay the freight, but because it was already paid by the
seller at the point of loading the goods in the carrier, then the buyer incurs two
liabilities to the seller: the goods bought on credit and the freight that was paid
by the seller, which the buyer has to reimburse to the seller. The entry to record
this would be:

Purchases 200,000
Freight In 1,000
Accounts Payable 201,000
To record goods bought on credit and freight paid by seller

Note: Regardless of whether the freight is collected from the buyer or prepaid by
the seller, if the term of shipment is FOB Shipping Point, Freight In must be
recorded only in the books of the buyer. The seller does not record any freight
under this term of shipment.
Freight In increases the cost of the merchandise purchased; that is why in the
Income Statement, Freight In is added to Purchases to arrive at Gross Purchases.
Freight is not subject to any discount.

B) Freight Out – FOB Destination

If the term of shipment is FOB Destination, the title of ownership to the goods passes
from the seller to the buyer when the latter (buyer) receives the goods. So, while the
goods are in transit or are being transported, the seller is still the owner. Being still the

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

owner, the seller, therefore, is liable for the freight of the goods bought by the
customer. The entry to record the payment of freight on the goods sold under this term
of shipment is:
Freight Out 1,000
Cash 1,000

Other account titles used in lieu of Freight Out are Transportation Out or Delivery
Expense, classified as an operating expense, specifically a selling, marketing or
distribution expense.
In the given example, the freight was prepaid by the seller, which should be, since the
term is FOB Destination. What if the term is FOB Destination, freight collect? This
means then that the buyer is the one who pays the freight to the common carrier, but
the amount of the freight is deducted from the account of the buyer.
Example: The seller sold goods, P160,000; terms: 3/5, n/15, FOB Destination, Freight
Collect
The entry to record the sale of goods on credit is
Accounts Receivable 160,000
Sales 160,000

Assume that the buyer paid P1,000 for freight, the entry on the books of the seller is:

Freight Out 1,000

Accounts Receivable 1,000

The seller was able to collect in full the buyer’s account within the discount period.
The entry to record this transaction would be:

Cash 154,200
Sales Discount 4,800
Accounts Receivable (160,000-1,000) 159,000

Computation: Accounts Receivable (160,000-1,000) 159,000

Less: Discount (3% x 160,000) ( 4,800)
Cash received 154,200

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

The buyer is entitled to the 3% discount on the P160,000 goods bought.

Note: Regardless of whether the term is Freight Collect (from the buyer) or Freight Prepaid
(by the seller), if the term of shipment is FOB Destination, it is only the seller who records
freight, Freight Out, in the books. The buyer does not recognize any freight in his/her books.
As previously mentioned, Freight Out is an operating expense, classified as a selling or
marketing or distribution expense in the Income Statement.

Lesson 2 – Inventory Systems

A) Periodic inventory system

Under this inventory method, the goods or merchandise bought during the accounting
period are recorded by debiting the account, Purchases, at the cost of the goods
purchased, which immediately represents a cost of sales or cost of goods sold expense.
Its nature is just like an expense; that is why this account is always debited. As goods are
sold during the year, the revenue account, Sales, is credited at the selling price of the
merchandise sold. However, the cost of the goods which were sold is not recorded at the
time of sale. So, under this method, at the time of the sale of the goods, only one entry is
made; that is, only the entry to record the revenue, sales. The cost of goods sold is
determined only at the end of the accounting period or when the entity conducts a
physical count of the goods or inventory on hand; that is, the unsold merchandise. This
is so because under the periodic or physical inventory method, the entity does not
maintain a detailed recording of the goods bought and sold. This inventory system is
used by firms which sell low-priced items, but which have many
varieties of goods, such as supermarkets, department stores, etc. In addition, it is less
costly to maintain.

B) Perpetual inventory system

Under this method, the business maintains records of each inventory item called stock
cards which contain the details of the purchase and sale of all its inventory items. The
individual record of each inventory item shows a running balance of the item after each
purchase or sales transaction affecting the inventory item. So, at any time, the business
can determine how much of its goods are still unsold or how many units of each
inventory item are on hand, without the need for a physical or inventory count.
However, it is still necessary for the entity to check if the balances shown in the stock
cards tally with the items still on hand, by conducting a physical count, usually at the
end of the accounting period.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

In the periodic inventory system, there is only one entry needed to record the purchase
and sale of merchandise. Under the perpetual inventory method, when goods are
purchased, the account debited is the asset, Merchandise Inventory, a real account. As
goods are sold, two entries should be made: the first entry, to record the sales in the
same way as this is recorded under the periodic inventory method, debit Cash or
Accounts Receivable and credit Sales. The second entry, under the perpetual inventory
method, is to record at once the expense, Cost of Sales or Cost of Goods Sold, and the
decrease in the asset, Merchandise Inventory, at the cost of the merchandise that was
sold by making the entry: debit Cost of Sales and credit Merchandise Inventory. Also,
when there is a sales returns, in addition to the usual entry to record the returns, a
second entry is made to record the increase in the asset, Merchandise Inventory, and
the decrease in the Cost of Sales or Cost of Goods Sold, at the cost of the goods returned,
not at the sales price. The entry is simply to reverse the entry made at the time of the
sale of the goods: debit Merchandise Inventory and credit Cost of Sales.

Note: If the buyer did not return the damaged goods, but was given only a discount or a
reduction from the regular price of the goods by the seller, then the only entry needed is
to record the Sales Returns and Allowances. You don’t have to record the entry: debit
Merchandise Inventory and credit Cost of Sales. Why? Because there is no quantitative
increase in the Merchandise Inventory, since the goods were not returned.
In the absence of an indication to the contrary, use the periodic inventory method.
A comparison of the two inventory methods is presented below.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

T rans ac tion P eriodic Inventory Method P erpetual Inventory Method

Ac c ount T itle D ebit C redit Ac c ount T itle D ebit C redit
P urc has ed goods on ac c ount, P 300,000; P urc has es 300,000 Merc handis e Inventory 300,000
terms 3/5, n/15 Ac c ounts P ayable 300,000 Ac c ounts P ayable 300,000
goods bought on ac c out goods bought on ac c ount

R eturned goods worth P 20,000, to the s eller Ac c ounts P ayable 20,000 Ac c ounts P ayable 20,000
P urc has e R eturns & Allowanc es 20,000 Merc handis e Inventory 20,000
goods returned to s eller goods returned to s eller

P aid ac c ount in full with a dis c ount Ac c ounts P ayable 280,000 Ac c ounts P ayable 280,000
P urc has e D is c ount 8,400 Merc handis e Inventory 8,400
C as h 271,600 C as h 271,600
ac c ount paid with dis c ount ac c ount paid with dis c ount
3% (300,000 - 20,000) = 8,400 3% (300,000 - 20,000) = 8,400

S old merc handis e, P 105,000; terms : 2/10, Ac c ounts R ec eivable 105,000 Ac c ounts R ec eivable 105,000
n/30; c os t of goods is 70% of s les S ales 105,000 S ales 105,000
goods s old on ac c ount goods s old on ac c ount

C os t of S ales 73,500
Merc handis e Inventory 73,500
to rec ord c os t of goods s old
70% x 105,000 = 73,500

Is s ued a c redit memo for damaged goods S ales R eturns and Allowanc es 5,000 S ales R eturns and Allowanc es 5,000
worth P 5,000 returned by the c us tomer Ac c ounts R ec eivable 5,000 Ac c ounts R ec eivable 5,000
goods returned by c us tomer goods returned by c us tomer

Merc handis e Inventory 3,500

C os t of S ales 3,500
70% x 5,000 = 3,500

T he buyer paid his ac c ount in full within the C as h 98,000 C as h 98,000

dis c ount period S ales D is c ount 2,000 S ales D is c ount 2,000
Ac c ounts R ec eivable 100,000 Ac c ounts R ec eivable 100,000
ac c ount c ollec ted with dis c ount ac c ount c ollec ted with dis c ount
2% (105,000 - 5,000) = 2,000 2% (105,000 - 5,000) = 2,000

Lesson 3 – Value Added Tax

Value added tax is a tax that is imposed or levied by the government on providers of
services or goods with annual gross sales or annual gross receipts of at least P3,000,000. The
revised tax law which took effect in January 2018 requires a 12% VAT to be paid, in addition to the
income tax.
Input Tax – Each time the entity buys goods and a 12% VAT (input tax) is included, the business
buyer pays two items: the cost of the goods purchased and the 12% VAT. The Input Tax account is
debited for the 12% tax, together with Purchases at the cost of the goods bought.
Output Tax – Each time a VAT-registered entity sells goods or renders services, the business
seller adds the 12% VAT (output tax) to the sales price to be collected from the buyer. Output Tax is
credited for the 12% tax and Sales for the sales price of the merchandise sold.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

Illustration: On June 1, Alpha Trading, a vat-registered entity, purchased goods, P44,800 from a vat-
registered seller; terms: 3/5, n/30. The entry to record this transaction in the books of the buyer,
Alpha Trading, is:

Purchases (44,800/112%) 40,000

Input Tax (12% x 40,000) 4,800
Accounts Payable 44,800

On June 5, Alpha Trading paid in full its account within the discount period. The entry is:

Accounts Payable 44,800

Purchase Discount (3% x 40,000) 1,200
Input Tax (12% x 1,200) 144
Cash 43,456

On June 10, Alpha Trading sold merchandise, P61,600; terms: 2/10, n/30. The entry for this
transaction is:

Accounts Receivable 61,600

Sales 55,000
Output Tax 6,600

On June 11, Alpha Trading issued a credit memo for P3,360 for damaged goods returned by the
buyer. The entry is:

Sales Returns and Allowances 3,000

Output Tax (12% x 3,000) 360
Accounts Receivable 3,360

On June 18, Alpha Trading was able to collect in full the account on June 10, less the returns. The
entry is;

Cash 57,075.20
Sales Discount (2% x 52,000) 1,040
Output Tax (12% x 1,040) 124.80
Accounts Receivable (61,600-3,360) 58,240

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

Note: Under the perpetual inventory method, always remember that instead of the Purchases,
Purchase Discounts and Purchase Returns and Allowances accounts, you have to use the
asset account, Merchandise Inventory.
The 12% VAT has an effect on Purchases Discounts and Sales Discounts as well as Purchases
Returns and Allowances as well as Sales Returns and Allowances. Purchases Discounts and
Purchases Returns and Allowances decrease Input Tax, while Sales Discounts and Sales
Returns and Allowances decrease the Output Tax.
The two accounts, Input Tax and Output Tax are closed at the end of every month, and the
difference may represent either a liability, Tax Payable (if Output Tax is higher than Input
Tax) or an asset, Deferred Tax (if Input Tax is higher than Output Tax). This topic will be
discussed very comprehensively in your Taxation course.
If the annual gross receipts or gross sales do not exceed P3,000,000, instead of the 12%
VAT, a 3% percentage tax is imposed on certain businesses. In this case the business simply
records this as a debit to Taxes Expense and a credit to Taxes Payable or Cash, as the case
may be.
Freight on goods bought or sold may likewise be subject to 12% VAT.

4. Progress Check
a) Distinguish between FOB Shipping point and FOB Destination.
b) Compare the periodic inventory method with the perpetual inventory method.
c) Discuss briefly value added tax and its implications on the purchases and sales
transactions of the merchandising concern.

5. Assignment
Answer end-of- Chapter 7 prob nos. 3, 5, 8,9, 10, 11 & 12.

6. Assessment
Answer end-of Chapter 7 prob no. 17.

7. References

Manuel, Zenaida Vera-Cruz (2018) 21st Century Accounting Process, Basic Concepts and
Procedures, Manila, Philippines: Zenaida Vera-Cruz Manuel.

Ballada, Win. (2020) Basic Financial Accounting and Reporting, Cavite, Philippines:
Dom Dane Publishers & Made Easy Books.

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 COLLEGE OF ACCOUNTANCY
C-AE13: Financial Accounting and Reporting
First Semester | AY 2020-2021

Cabrera, Ma. Elenita B. & Cabrera, Gilbert Anthony B. (2018) Financial Accounting and
Reporting,Manila, Philippines: GIC Enterprises & Co., Inc.

Ferrer, Rodiel C. & Millan, Zeus Vernon B. (2017) Fundamentals of Accountancy,

Business and Management, Part 1, Baguio City, Philippines: Bandolin Enterprise.

Warren, Carl S., Reeve, James M., & Duchac, Jonathan E. ((2015) Accounting 25th Edition,
Pasig City, Philippines: Cengage Learning Asia Pte Ltd (Philippine Branch).

Gilbertson, Claudia B., Lehman, Mark W., & Gentene, Debra H. (2017) Century 21
Accounting Multi-column Journal 10th Edition, Boston, MA 02210 USA: Cengage Learning.

Wild, John; Kwok, Winston; Venkatesh, Sundar; Shaw, Ken W. & Chiappetta, Barbara.
(2016) Fundamental Accounting Principles 2nd Edition, 2 Penn Plaza, New York:
McGraw-Hill Education.

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