Ernie’s Farm and Garden Implement Store sells, repairs, and services farm and garden equipment. In 2010, the state attorney general began to investigate customers’ complaints that Ernie’s was adding a delivery and handling fee to each product—fees that are illegal under state law. In 2011, Ernie’s entered into a consent judgment under which it was to make restitution of every delivery and handling fee charged to customers after April 1, 2009. The judgment also required Ernie’s to give the attorney general’s office a list of every customer entitled to restitution and to issue a coupon in the name of each customer.
The coupons offered each customer the option of a $50 discount on the purchase of any part or service or $90 toward the purchase of any new or used equipment. If not satisfied with the coupon offer, the customer could redeem the coupon for $40 in cash. Ernie’s mailed out 1,860 coupons in April and May 2011. As of December 31, 2011, 835 coupons had been redeemed as follows: 405 for cash refunds, 390 for $50 discounts for parts and services, and 40 for $90 discounts on equipment purchases.
The controller of Ernie’s is not certain that the company can deduct the amounts it gave customers for refunds or discounts in 2011 and has asked your firm for advice. Your supervisor has assigned you to determine Ernie’s 2011 deduction. Write a memorandum to your supervisor explaining Ernie’s 2011 deduction for the coupons.