Question

​(Trade credit discounts​) Determine the effective annualized cost of forgoing the trade credit discount on the following​ terms:

a. 2​/9​, net 40

b. 1​/6​, net 45

c. 2​/6​, net 25

d. 5​/5​, net 80

e. 4​/7​, net 60

f. 3​/10​, net 90

Answer 1

(a)

2/9 net 40 means that take 2% discount if paid in 9 days, otherwise pay in 40 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.02/(1-0.02)) * (360/(40 - 9))

= 0.2370 or 23.70%

(b)

1/6 net 45 means that take 1% discount if paid in 6 days, otherwise pay in 45 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.01/(1-0.01)) * (360/(45 - 6))

= 0.0932 or 9.32%

(c)

2/6 net 25 means that take 2% discount if paid in 6 days, otherwise pay in 25 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.02/(1-0.02)) * (360/(25 - 6))

= 0.3867 or 38.67%

(d)

5/5 net 80 means that take 5% discount if paid in 5 days, otherwise pay in 80 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.05/(1-0.05)) * (360/(80 - 5))

= 0.2526 or 25.26%

(e)

4/7 net 60 means that take 4% discount if paid in 7 days, otherwise pay in 60 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.04/(1-0.04)) * (360/(60 - 7))

= 0.2830 or 28.30%

(f)

3/10 net 90 means that take 3% discount if paid in 10 days, otherwise pay in 90 days

Effective interest rate = Discount %/(1-Discount %) x (360/(Full allowed payment days - Discount days))

= (0.03/(1-0.03)) * (360/(90 - 10))

= 0.1392 or 13.92%