Congratulations! You’ve just signed up for a new business credit card, and you’re ready to start spending and start accumulating points and rewards. You’re looking forward to redeeming some of that cash and using it to purchase an inexpensive coffee maker for the office.
After a few months you trade in your points, or claim your cashback, and then you take the funds and go and make your purchase. The new coffee maker works great, and your staff is very happy.
But how do you account for all of this? Is this cashback income, a non-expense, or something else? What if you used a sign-on bonus? Are there any tax implications? Have you chosen the right solution that will allow you to easily account for any rewards you redeem? In this post we discuss some considerations for dealing with cashback and rewards with your new credit cards.
Individual circumstances and card terms may vary, so please consult with your professional advisors when making decisions for your business.
Cashback vs points
Your first choice when choosing a credit card issuer is whether you want cashback or reward points. We’ve discussed the pros and cons of each before, but cashback is denominated in dollars, so it’s much easier to account for.
Depending on the terms for your card, cashback could be considered an asset that you accrue until you redeem it. The folks giving you that cashback may be booking the amount on their balance sheet as a liability to you.
If your rewards are denominated in points—well, what’s a point worth? If the value of a point changes, do you book realized / unrealized gains when you finally redeem? It’s certainly possible to manage that complexity, but with cash, the value doesn’t change.
Often, accountants do not put unclaimed cashback or rewards on their balance sheets, and instead would concern themselves with it when it is redeemed. But if for some reason you wanted to—perhaps the accrued has ballooned to something material—posting the value of the asset would be quite tricky to do with points, and their value can fluctuate against the US dollar without their rates being reverse-engineered by folks like The Points Guy.
How might you account for a sign-on bonus, i.e., a reward in cash or points that you receive for enrolling in a card program? This could be considered a monetary incentive and may need to be treated as other revenue. Several banks are issuing 1099s for any sign-on bonuses they provide, meaning they are being reported to the IRS as taxable income paid to you. The IRS requires any cash payment greater than $600 to be reported to them, but whether reported or not, they may still regard it as income.
In a business’s Chart of Accounts, a sign-on bonus might be recorded as follows, assuming it was received on the day of signup:
Earned cashback could be treated differently as it is earned as a result of spending money on the card. You might treat it as a cash rebate, as detailed in IRS Publication 525.
For example, if a business goes and purchases computer supplies and then receives cashback as a result of making that purchase, that business could use the cashback to reduce the original purchase price. This wouldn’t increase income directly, but would increase the tax basis because the expense level has been reduced.
If the business were to purchase $400 worth of computer supplies, and the purchase and cashback were all to happen on the same day, the accounting using the above approach might be:
Although it is more customary to combine the two expense lines into a single line:
In truth, there is likely to be a separation in time between when cashback is earned and when it is redeemed. In that case, a business might want two entries:
Purchase is made
Cashback is redeemed
Card providers often permit cashback to be redeemed several periods later, and after the original purchase period has been locked, even though it is applied to the original purchase. If a business were trying to account for this accurately the journals might be:
Purchase is made
Cashback is redeemed
However accountants often do not post accrual entries for cashback.
Redeeming cashback in a lump sum
In practice, businesses do not generally redeem cashback on individual transactions, but they will periodically redeem the cashback that they’ve accrued as a result of using a card as a lump sum. How might we think about this?
The concept is no different: the lump sum of cashback is an aggregate discount on all the purchases that have been made on the card over time.
The most common way to manage the accounting is to apply cashback to a single account, i.e., a Cashback Earned account or similar. Some people use an income account, whereas others prefer a contra expense account (i.e., an expense account with a negative balance), but when aggregated with all monthly expenses would result in the right expense value.
Either approach can work, depending on your circumstances and preferences. Adding cashback to income but not expenses should result in the same taxable difference as subtracting cashback from expenses and deducting the result from income. However, a purist may choose to use a contra expense account, especially if they consider cashback a reduction in the cost basis of the original expenses.
Avoid the accounting headache
At Ramp, we offer a flat 1.5% cashback on all purchases, and one of our goals is to simplify the work you need to do to compensate for it with our accounting automation. For most accounting providers, we allow you to sync your claimed cashback to your accounting system, so we do all the operational work for you.
If you’re on a program that uses different cashback rates for different categories, or worse, points, you might be in for a bit of an accounting headache when it comes to month and year end closing. Ramp’s rewards program has been designed from the ground up to help you close your books faster.
The information provided in this article does not constitute accounting, legal or financial advice and is for general informational purposes only. Please contact an accountant, attorney, or financial advisor to obtain advice with respect to your business.