Journal entry for return inward

Introduction

In business, we, as a supplier, may come across the return inward transaction in which the customer returns the purchased goods back to us for some reason. In this case, we need to make the journal entry for the return inward in order to account for the refund that we need to give to the customer, either in cash or with the credit to the customer’s account.

The return inward is also known as the sale returns, in which the customer returns the goods for various reasons such as damaged goods, defective products, wrong specifications, etc. Likewise, the return inward which we usually record in the “sales returns and allowances” account will decrease our net sales on the income statement.

At the same time, the journal entry for return inward will also decrease the total assets on the balance sheet as we will need to refund the customer back with cash or credit their account. Additionally, if we use the perpetual inventory system, we also need to update the balance of the inventory on the balance sheet as the return inward will result in an increase in the inventory balance.

Journal entry for return inward

We can make the journal entry for the return inward by debiting the sale returns and allowances account and crediting the accounts receivable or cash account.

Periodic inventory system:

Account Debit Credit
Sales returns and allowances $$$
Accounts receivable/cash $$$

This journal entry of return inward will decrease the total assets on the balance sheet by the amount of the goods returned. And if we use the periodic inventory system, this journal entry is sufficient for the return inward transaction.

However, if we use the perpetual inventory system, we also need to make another journal entry to update the balance of the inventory. This is due to, as the name suggested, we need to update the balance of the inventory perpetually under the perpetual inventory system.

Likewise, we can make the journal entry for return inward under the perpetual inventory system as below:

Perpetual inventory system:

Account Debit Credit
Sales returns and allowances $$$
Accounts receivable/cash $$$
Account Debit Credit
Inventory $$$
Cost of goods sold $$$

Return inward example

For example, on January 10, we have a $5,000 return inward as the customer has returned these $ 5,000 merchandise goods back to use due to the wrong specification. The customer had purchased these $ 5,000 merchandise goods on credit from us last month.

These $5,000 merchandise goods that the customer has returned back to us have an original cost of $3,000 on our balance sheet. And we use the perpetual inventory system to manage the inventory in our merchandising business.

In this case, we can make the journal entry for the $5,000 return inward as below:

Perpetual inventory system:

Account Debit Credit
Sales returns and allowances 5,000
Accounts receivable 5,000
Account Debit Credit
Inventory 3,000
Cost of goods sold 3,000

Damaged goods

As mentioned, the customer may return the goods back to use due to the damage. In this case, when we receive goods back, we need to record their value at the damaged state which will be lower than their original cost.

For example, on February 10, we have received the $2,000 goods returned by the customer due to the damage. The customer had purchased these $ 2,000 goods on credit last month.

These returned goods have the original cost of $1,000 on the balance sheet. However, due to their damaged state, we estimate that they have a value of only $200 as of February 10. And we use the perpetual inventory system in our business.

In this case, the journal entry for the $2,000 return inward will be as below:

Perpetual inventory system:

Account Debit Credit
Sales returns and allowances 2,000
Accounts receivable 2,000
Account Debit Credit
Inventory 200
Cost of goods sold 200

In this journal entry, we debit the inventory account only $200 instead of $1,000. This is due to when we receive the inventory goods back, its value is only $200, instead of $1,000 of its original cost, due to its damaged state. Additionally, if we debit the inventory account with the original cost of $1,000, the total assets on our balance sheet will be overstated by $800, and the total expenses on our income statement will be understated by the same amount of $800.