What Accounts Does Target Use for Shipping Costs on Account?
Uncover how major retailers like Target meticulously track and manage their diverse shipping expenses and deferred payment obligations.
Large retailers like Target regularly incur substantial shipping costs as part of their operations. Accurately recording these expenditures is fundamental to sound accounting. Many shipping costs are incurred “on account,” meaning payment for services is deferred to a later date. This practice allows companies to manage cash flow efficiently and ensures continuous movement of goods. Proper accounting provides a clear picture of a company’s financial position and operational expenses.
Types of Shipping Costs and “On Account” Transactions
Shipping costs generally fall into two main categories for a business like Target. Inbound shipping costs are expenses incurred to transport inventory or raw materials into the business, including movements from suppliers to distribution centers or retail stores. These costs are essential for acquiring goods for sale or use. Outbound shipping costs involve delivering products from the business to its customers, covering shipments from a warehouse or store to an online shopper’s home or another retail location. Both inbound and outbound freight expenses are constant considerations for businesses dealing with physical goods.
The concept of an “on account” transaction means that services, like shipping, have been received, but the actual cash payment has not yet been made. This arrangement creates a liability for the business, an obligation to pay the vendor at a future date. This routine practice allows for smooth operations without immediate cash disbursement.
Accounting for Inbound Shipping
When a retailer incurs inbound shipping costs “on account,” specific accounting entries are required to accurately reflect these transactions. The primary accounting treatment for inbound freight, especially for merchandise inventory, involves capitalizing these costs as part of the inventory’s value. This means the shipping expense is added to the cost of the goods purchased. Under Generally Accepted Accounting Principles (GAAP), costs to bring inventory to its present location and condition for sale are included in inventory’s cost.
Upon receiving the shipping service and the corresponding invoice, the business typically debits the Inventory account and credits Accounts Payable. This entry increases the asset value of the inventory on the balance sheet and simultaneously recognizes a current liability. For example, if Target receives a shipment of electronics and the freight charge is $500, the Inventory account would increase by $500, and Accounts Payable would also increase by $500.
Capitalizing inbound freight aligns with the matching principle in accounting, ensuring that the total cost of acquiring and preparing inventory for sale is recognized as an expense (Cost of Goods Sold) only when the inventory is actually sold. The standard practice for significant retailers is capitalization, as these costs are directly attributable to getting the merchandise ready for sale. This approach ensures a more accurate representation of gross profit when the goods are eventually sold.
Subsequently, when the invoice from the shipping carrier is paid, a separate journal entry is made. This payment reduces the liability previously recorded. The Accounts Payable account is debited to decrease the outstanding obligation, and the Cash account is credited, reflecting the outflow of funds. For instance, paying the $500 shipping invoice would involve debiting Accounts Payable for $500 and crediting Cash for $500.
Accounting for Outbound Shipping
Outbound shipping costs, incurred when delivering products to customers, are accounted for differently than inbound freight. These costs are generally treated as operating expenses in the period they are incurred, rather than being capitalized into the cost of inventory. This is because outbound shipping occurs after the goods are ready for sale and are considered part of the selling and distribution process.
When a business incurs outbound shipping costs “on account” for delivering goods to customers and receives an invoice, the primary journal entry involves debiting an expense account and crediting Accounts Payable. The expense account typically used is Shipping Expense, Delivery Expense, or Freight-Out Expense. This increases the business’s expenses on the income statement and establishes a liability for the unpaid shipping service.
For example, if Target incurs $1,000 in shipping costs to deliver online orders to customers, the Shipping Expense account would be debited for $1,000, and Accounts Payable would be credited for $1,000. These expenses are considered period costs, meaning they are recognized in the income statement during the period in which they arise, as they are not directly tied to the acquisition or production of inventory. This approach accurately reflects the costs associated with generating sales revenue in a given period.
When the shipping invoice is subsequently paid, the outstanding liability is settled. The journal entry to record this payment involves debiting Accounts Payable to reduce the liability and crediting Cash to reflect the cash outflow. Continuing the example, paying the $1,000 shipping invoice would mean debiting Accounts Payable for $1,000 and crediting Cash for $1,000. This process completes the accounting cycle for the outbound shipping transaction.