What is the Net Method of Recording Accounts Payable?

Under the net method of recording accounts payable, supplier invoices are recorded at the amount that will be paid after any early payment discounts have been applied. This differs from the standard approach, under which the full amount of each supplier invoice is initially recorded, with any early payment discounts recorded only when payment is eventually made. If the recording entity does not pay for the invoice by the date needed to allow for a discount, then the amount of the discount must be added back to the supplier invoice amount, which requires an additional journal entry.

Accounting for the Net Method

When recording a supplier invoice under the net method, the entry is a debit to the relevant expense or asset account, and a credit to the accounts payable account, using the net price. If the discount is not taken, this requires a later entry to charge the purchase discounts lost account (which is an expense account).

Advantages of the Net Method

There are a few advantages to using the net method. One is that it immediately reduces your accounts payable balance. This enhances the firm’s current ratio, which may be a consideration when this ratio is being reviewed by lenders. A further advantage is that only one entry is required to record the early payment discount, since it is incorporated into the initial recordation of the underlying payable. Furthermore, the net method is more theoretically correct than standard practice, since all effects associated with a supplier invoice are recorded within the same reporting period, so that the full effect of the invoice impacts the financial statements within a single period.

Disadvantages of the Net Method

The main concern with using the net method arises when a business cannot reliably pay within discount terms. In this case, it needs to add back the amount of the early payment discount that was missed. Consequently, if a business does not do a good job of taking all early payment discounts, it should not use the net method.