An allowance is a reserve that is set aside in the expectation of expenses that will be incurred at a future date. The creation of a reserve essentially accelerates the recognition of an expense into the current period from the later period in which it would otherwise have been recognized. The intent of a reserve is to match expenses with the sales transactions with which they are associated. For example:
An allowance is created for sales returns that are expected from current shipments to customers.
An allowance is created for warranty claims expected from current shipments to customers.
The "allowance" term can also be used from the perspective of a customer order, where the sales staff gives an allowance that is essentially a price reduction, perhaps based on year-to-date order volume, or because an order is being placed within a time period designated as being subject to a discount.
The allowance concept can also apply to per diem travel and entertainment arrangements, where employees are paid a certain amount per day for their travel expenses, irrespective of the actual amount incurred. This practice can give rise to extreme frugality by employees, in order to earn a profit on the per diem amounts paid to them.