Question

Credit memos are created when a product is returned. Credit memos reduce A/R (accounts receivable) by crediting the account, and it writes off the invoice. This also records a debit to the Sales Returns and Allowances account. You have noticed that the A/R clerk has created an abnormally high number of credit memos. You also notice the inventory does not reflect the additional inventory resulting from the sales returns and allowances. What would you do, and how would you document your decision?

Answer 1

1. This is a case of misappropriation of accounts receivable, the amount collected from accounts receivables is misappropriated and then these are written of by recording as a sales return by generating a fake credit memo. Here there will no goods be returned actually by the buyer. So no additional inventory will be there as said in the question.
2. In this type of case, it would be better to bifurcate the work among 2 or more people so that it might reduce the risk of misappropriation. Ensuring proper controls and supervision over the sales returns will also be helpful to reduce such risk.
3. I would document my decision, by taking any some of the cases as example and proving the same by taking confirmations from the buyers as to the issue of credit memos. I would always recommend collection of accounts receivable through bank rather than cash. And also ensure that credit memo entry will be made only after proper authorisation and verification that the goods are actually returned.