Posted by How do you calculate a payment discount, on the gross value or the net value of the invoice?
Gross Value i.e., including the VAT amount.
Net Value i.e., the amount before VAT is calculated.
Early Payment / Prompt Payment credit terms
Your business offers to other businesses a 5% discount on early payment of an invoice. Or your business has an agreement with a customer that if they pay within their credit terms, they get a 5% discount every month they make a payment to you.
In these cases, the agreement is that a credit note is not issued for discount, and it is a business-to-business sale.
Discount on net value versus discount on the gross value
We are going to examine how to deal with the discount calculated on the net amount and compare it to giving discount on the gross amount and discover which is best for your business.
Example:
You invoice your customer for €10,000 + vat @ 20%
The gross value of the invoice is €12,000.
Made up as follows:
| Net | €10,000 |
| Vat | €2,000 |
| Gross | €12,000 |
On your VAT 3 return you must record a VAT liability of €2,000
Your customer can claim back on their VAT 3 return an amount of €2,000.
In this situation, when we receive payment from our customer, we can’t change the VAT amount, it must remain at €2,000.
Calculating discount on the Gross amount
5% of €12,000 = €600
The amount of money we would receive is.
| Gross | €12,000 |
| Discount @ 5% on Gross | €600 |
| Received | €11,400 |
As we must record €2,000 as the VAT liability, the VAT amount cannot change
Let us look at how much of the sale we get to keep.
| Gross | €12,000 |
| less VAT | €2,000 |
| less Discount | €600 |
| Net (we keep) | €9,400 |
The €9,400 is the actual cost to the customer as they get to claim the €2,000 in VAT and the discount of €600.
They actual discount you gave is 6% not 5%
€600 as a percentage of €10,000 is 6%
Calculating discount on the Net amount
| Gross | €12,000 |
| Discount @ 5% on Net | €500 |
| Received | €11,500 |
As we must record €2,000 as the VAT liability, which cannot change
Let us look at how much of the sale we get to keep.
| Gross | €12,000 |
| less VAT | €2,000 |
| Net | €10,000 |
| less Discount @5% on Net | €500 |
| We keep | €9,500 |
| The customer got the true discount of 5% |
The Vat liability has not changed.
We received €11,500 in payment
We get to keep €9,500 and the difference of €11,500 – €9,500 = €2,000, the VAT 3 liability
Comparison of Discount on Net amount and Discount on Gross amount
| Discount on Net amount | Discount on Gross amount | ||
| Gross Value | €12,000 | Gross Value | €12,000 |
| Vat amount | €2,000 | Vat amount | €2,000 |
| Net amount | €10,000 | Net amount | €10,000 |
| Discount @5% | €500 | Discount @5% | €600 |
| Money received €12,000 – €500 | €11,500 | Money received €12,000 – €600 | €11,400 |
You get paid less overall with the discount on the Gross Amount method.
Tip:
Never give settlement discount on the Gross value of the invoice unless you are willing to give away more discount.
If you do give discount on the gross amount, issue a credit note for the discount to avoid giving more discount than is required (see vat and payment discounts on gross values for an explanation).
Bookkeepers Ireland 