Sales Allowance Definition

Written by True Tamplin, BSc, CEPF®

Reviewed by Subject Matter Experts

Updated on January 30, 2024

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Sales Allowances are the reduction in the actual sales price that occurs when a particular item does not perform to expectations or when there are other defects in the product.

Sales allowances are typically used in commercial transactions, such as when a product is returned or not delivered to the buyer.

When you sell an item through your business, there should be some allowance for returns and other contingencies. Every company has its policy on how much can be deducted from the sales price due to returns and other factors.

It is important to establish the policy for your company, but you need to be sure that it will not discourage customers from buying your product or service.

When Should You Use It?

You can use this strategy if your company has an overstock of inventory, for example, on seasonal items. You can also use a sales allowance when you have an aging inventory and it has been in your store for more than six months.

The problem with this type of strategy is that customers may not trust the quality of your product if there are major discounts on items that were just manufactured or stocked.

Why Does Sales Allowance Matter to Your Business?

It's important to price your products fairly, but it is also important to use a sales allowance to make items more attractive.

  • It could increase the value of your business because customers will be able to purchase additional inventory that otherwise may not have been available for them if they did not receive this discount.
  • It's also beneficial when trying to dispose of older or damaged goods that might not sell well at full price.
  • It is helpful if there are overstocks on seasonal products like holiday decorations. They may be more appropriate as clearance items than having them remain on shelves until they expire and need to be replaced.
  • If certain goods do not pass quality control testing before getting sent out, allowing customers who receive these defective deliveries to return them without questions makes this process easier on both parties involved.
  • Customers will also appreciate being able to purchase products at reduced prices as well.
  • These allowances give customers additional opportunities and overall satisfaction. The more satisfied customers become, the greater chance they'll return which ultimately results in increased revenue.

Example of How To Use Sales Allowance In Your Company:

Let's say, for example, Company XYZ utilizes sales allowances. In 2023, they offered discounts on certain products to encourage customers to buy them at reduced prices before the end of the year.

This was done as part of their annual inventory reduction plan, which occurred from October through December each year.

This also allowed individuals who bought items during this time period additional savings over those who purchased these things after 2023 began.

This example of a sales allowance is used every year by Company XYZ to help get rid of older inventory while also encouraging customers to purchase items still in demand.

It was very successful for them, as they could sell more than the expected amount that had been forecasted before 2023 even began.

Pros and Cons of Sales Allowance

Sales Allowance Pros and Cons

The pros to having a Sales Allowance policy include:

  • It encourages customer loyalty by offering them additional discounts beyond the original price of the item being purchased.
  • It increases your company's cash flow by making older inventory more attractive to buyers.
  • Understanding how long different types of products remain in stock before they need a replacement; whether through seasonal changes or other circumstances such as poor performance by consumers using the item(s).
  • It can help reduce reports of overstock, as the items are now able to be sold at a reduced price.
  • It can help you better understand the percentage of returns on certain items.
  • It gives you insight into how often certain products are being returned by customers after they have been purchased.

The cons to having a Sales Allowance policy include:

  • It is not fair for your company when it comes to pricing, as in some cases, an allowance will be greater than another item's actual price.
  • Items with allowances are harder to track in accounting software because they must be kept separate from other products that do not have this type of discount associated with them.
  • It can lead to customers expecting discounts on every product purchased from your company.
  • It could hurt your overall business if you give too many allowances or keep products in stock for too long without selling them.

This will cause problems when you go to restock items because it might be difficult and costly to do so, which means there could also be additional costs associated with this strategy, such as storage expenses.

Final Thoughts

Sales Allowances allow retailers like yourself an opportunity to maximize profit margins by selling older or damaged goods and help increase customer satisfaction. Customers appreciate discounts, and it can lead to increased revenue for everyone involved.

It also helps retailers maximize profit margins by selling older or damaged goods. Customers appreciate discounts, and it can lead to increased revenue for everyone involved.

Sales Allowance FAQs

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website or view his author profiles on Amazon, Nasdaq and Forbes.

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