Accounts Receivable

Accounts receivable (AR) is the balance of money due to a firm for goods or services delivered or used but not yet paid for by customers. Accounts receivables are listed on the balance sheet as a current asset. AR is any amount of money owed by customers for purchases made on credit.

Accounts receivable refers to the outstanding invoices a company has or the money clients owe the company. The phrase refers to accounts a business has the right to receive because it has delivered a product or service. Accounts receivable, or receivables represent a line of credit extended by a company and normally have terms that require payments due within a relatively short time period. It typically ranges from a few days to a fiscal or calendar year.

Accounts receivable, abbreviated as AR or A/R, are legally enforceable claims for payment held by a business for goods supplied or services rendered that customers have ordered but not paid for. These are generally in the form of invoices raised by a business and delivered to the customer for payment within an agreed time frame. Accounts receivable is shown in a balance sheet as an asset. It is one of a series of accounting transactions dealing with the billing of a customer for goods and services that the customer has ordered. These may be distinguished from notes receivable, which are debts created through formal legal instruments called promissory notes

Companies record accounts receivable as assets on their balance sheets since there is a legal obligation for the customer to pay the debt. Furthermore, accounts receivable are current assets, meaning the account balance is due from the debtor in one year or less. If a company has receivables, this means it has made a sale on credit but has yet to collect the money from the purchaser. Essentially, the company has accepted a short-term IOU from its client.

Good accounting requires that an estimate should be made for any amount in Accounts Receivable that is unlikely to be collected. The estimated amount is reported as a credit balance in a contra-receivable account such as Allowance for Doubtful Accounts. This credit balance will cause the amount of accounts receivable reported on the balance sheet to be reduced. Any adjustment to the Allowance account will also affect Uncollectible Accounts Expense, which is reported on the income statement.

Special uses

Companies can use their accounts receivable as collateral when obtaining a loan (asset-based lending). They may also sell them through factoring or on an exchange. Pools or portfolios of accounts receivable can be sold to third parties through securitization.

For tax reporting purposes, a general provision for bad debts is not an allowable deduction from profit a business can only get relief for specific debtors that have gone bad. However, for financial reporting purposes, companies may choose to have a general provision against bad debts consistent with their past experience of customer payments, in order to avoid over-stating debtors in the balance sheet.

Accounts receivables process

While the process of accounts receivables differs from business to business, we have listed common things that you will get to see in accounts’ receivables process followed by most businesses.

• Capturing or recording the credit days or due date.
• Invoicing the customer on credit as per the credit policy.
• Follow-up and collection schedule.
• If there are any cash discount for early payment, the relevant adjustment to receivables account needs to be made.
• Sending reminder letter with the details of bills that are pending.
• Generating the overdue bills and the ones that are pending from the longer time.
• On receiving payment, account the receipt and adjust the receivables accordingly.

Risks of Outstanding Accounts Receivable Balances

Cash flow deficiencies: A business needs cash flow for its operations. Selling on credit may boost revenue and income, but it offers no actual cash inflow. In the short term, it is acceptable, but in the long term, it can cause the company to run short on cash and have to take on other liabilities to fund operations.

Uncollected debt: High A/R that goes uncollected for a long time is written off as bad debt. This situation occurs when customers who purchase on credit go bankrupt or otherwise do not pay the invoice.