## Treatment of Items in Material Purchase Cost

The cost of material purchased is not simply the invoice price. Various additions and deductions apply.

### Rule: Include vs Exclude

Add to purchase cost = items that are a necessary and direct consequence of acquiring the material.

Deduct from purchase cost = discounts, subsidies, refundable amounts.

Exclude entirely = abnormal costs, finance charges, penalties.

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### Discounts and Subsidies

Item	Treatment	Reason
Trade Discount	Deduct from purchase price	Reduction in listed price; always net off
Quantity Discount	Deduct from purchase price	Same logic as trade discount
Cash Discount	Do NOT deduct — treat as finance/interest charge	It is a reward for early payment, not a price reduction
Government Subsidy/Grant/Incentive	Deduct from cost of purchase	Net cost principle

### Duties and Taxes

Item	Treatment
Road Tax / Toll Tax (paid by buyer)	Include — directly attributable to procurement
GST	Exclude if input tax credit is available (default assumption unless stated otherwise)
Customs Duty	Include — paid on imported goods; forms part of cost

### Penalties, Fines, and Abnormal Charges

Item	Treatment	Reason
Demurrage	Exclude — charge to Costing P&L	Abnormal cost (delay in loading/offloading)
Detention charges / Fines	Exclude — charge to Costing P&L	Abnormal; non-compliance penalty
Any other Penalty	Exclude	Never forms part of material cost

### Other Expenditures

Item	Treatment
Insurance (transit)	Include — protects goods during procurement
Commission / Brokerage paid	Include — part of acquisition cost
Freight Inwards	Include — directly attributable to procurement

### Cost of Containers

Situation	Treatment
Non-returnable containers	Full cost included in material cost
Returnable containers (full refund)	Not included (net cost = zero)
Returnable containers (partial refund)	Include only the shortfall (amount paid − refund received)

### Shortage of Material

Type	Treatment
Normal shortage (evaporation, breaking bulk, unavoidable)	Cost absorbed by good units (spreads over usable quantity)
Abnormal shortage (pilferage, mishandling, avoidable)	Charged to Costing Profit & Loss Account (not to product cost)

Worked example

### Example 1

Example — Building material cost from invoice:

Material cost = 1,00,000 − 5,000 (trade discount) + 3,000 (freight) + 500 (insurance) + 4,000 (customs) = ₹1,02,500

Cash discount ignored. GST excluded (credit available).

### Example 2

Example — Container treatment:

A company pays ₹10,000 for containers. On return, it receives ₹7,000.

Shortfall = ₹10,000 − ₹7,000 = ₹3,000 included in material cost.

If containers are non-returnable: full ₹10,000 included.

### Example 3

Example — Normal vs abnormal shortage:

A company purchases 1,000 kg of a chemical. Normal evaporation loss = 20 kg; pilferage detected = 15 kg.

Normal loss of 20 kg → cost spread over 980 kg (good units + abnormal loss units). Actually, normal loss cost is absorbed by the remaining 980 kg.

Abnormal loss of 15 kg → cost of 15 kg charged to Costing P&L, not to material cost.

⚠️ Common exam mistakes

Including cash discount as a deduction from purchase cost — cash discount is a finance charge and must NOT reduce material cost.
Including GST in material cost without checking if input tax credit is available — by default (unless the question states otherwise), GST is excluded.
Treating demurrage as part of freight and adding it to cost — demurrage is an abnormal cost and goes to Costing P&L.
Forgetting to include only the shortfall for returnable containers — students often include the full container cost or exclude it entirely.
Treating all shortages the same — normal shortage is absorbed by good units; abnormal shortage is written off to P&L.

Reference:

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Treatment of Items Associated with Purchase of Material

Worked example