COGS impact of free items

Would someone be able to explain to me the accounting impact on COGS if we wanted to give an item for free. Is the best way to add the item and change the rate to $0 or is it to add the item as is and include a 100% discount. We use average costing

Rookie Asked on July 27, 2023 in Accounting.

This question was also asked/answered in the #general channel of the Slack workspace:

on July 27, 2023.
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2 Answer(s)

. Regardless of the method you use, giving an item for free will impact yourCOGS because you’re incurring the cost of the item without any associated revenue.

Here are the two options you’re considering:

1. Changing the item rate to $0: In this scenario, the item appears on the invoice as $0. The COGS would still reflect the actual cost of the item. This means your gross margin will decrease because you’ve increased COGS without a corresponding increase in sales.
2. Including a 100% discount: This approach shows the full price of the item and then discounts it. Your sales revenue will show the full price of the item and then the same amount as a discount, netting to $0. The COGS will reflect the cost of the item, leading to a decrease in the gross margin.

From an accounting perspective, both methods have similar impacts on the financials. However, the 100% discount method is often preferred because it allows for better tracking. It provides more visibility into the discounts you’re offering and the impact on sales revenue.

Beginner Answered on July 27, 2023.

Thank you so much for this response! It’s made things way clearer for me. One other question I have is regarding the visibility into the discounts.  We currently have our discounts items setup were the posting account is our Sales: Revenue account. Same account as our items. Does this decrease visibility then? Should we be using a different account instead?

on July 27, 2023.
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As per Best Practice use 100% discount against free Item.


BP Sharma

Rookie Answered on December 22, 2023.
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