Founder Q&A : Matching sales commission expense to revenue generated

Q : In a recent Founder Q&A session, a founder sought advice on how we should be recording or matching sales commission expense to revenue generated?

The answer is likely amortizing sales commissions which refers to the process of spreading out the cost of sales commissions over a period of time instead of recognizing the full expense at the time of sale.

In most businesses that rely on sales, sales commissions are a significant expense, and recognizing the entire commission expense in the month of sale can distort the income statement and financial statements. To mitigate this, businesses can choose to spread out the expense of sales commissions over the period when the revenue is recognized, which is usually the length of the contract or agreement.

When a business chooses to amortize sales commissions, it means that they need to spread out the commission expense over a specific period, which could be multiple years. For instance, if a business decides to amortize commissions over a two-year period, they need to go back to two years prior to the current year and calculate the commission expense for all the deals made during that time. This is necessary to ensure that the commission expenses are recorded correctly and matched with the revenue generated over the commission period.

It’s important to note that deals made before the commission period will not have any impact on the current year’s financials, as they will already be fully amortized. However, for deals that have a longer commission period, businesses may need to go back further to ensure that the expense is accurately matched with the revenue generated over the period.

For instance, suppose a business pays a sales representative a commission of $1,000 for a sale that results in a two-year contract. Instead of recognizing the full $1,000 commission expense in the month of the sale, the business could spread the expense over the two-year period that the contract covers, recognizing $500 in each year.

This method of amortizing sales commissions has the advantage of matching the expense to the revenue that the commission helps generate. It also provides a more accurate representation of the company’s financial performance over time, rather than overstating expenses in a particular period.

It is worth noting that there are specific accounting rules and requirements that companies must follow when amortizing sales commissions. These rules can vary depending on the industry, jurisdiction, and the type of commission structure used. Therefore, it is essential to consult with an experienced accountant or financial advisor when implementing an amortization strategy for sales commissions.

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