Difference between accounts payable and receivable
If you are a new business owner, you may not be familiar with accounts payable and accounts receivable, but both play a crucial role in your day-to-day business operations.
Accounts receivable are the money your business makes from the sale of its products and services. By comparison, accounts payable are the money your business owes its suppliers and vendors.
This article will go into more detail about how each one works, how it affects your business, and how to accurately track that financial data.
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Accounts Payable vs Accounts Receivable
Understanding the difference between accounts payable and accounts receivable will help you better understand accounting processes. If you confuse the two, you could end up with an incorrect balance in your general ledger.
Accounts payable refers to the money your business owes its vendor, while accounts receivable refers to the money customers owe your business. Accounts receivable are considered an asset in accounting because they generate cash flow for your organization. Accounts receivable will generally be converted to cash within one year.
By comparison, accounts payable are a liability because it’s money your business owes. These differences are highlighted in the table below.
|Accounts receivable||Accounts payable|
|Money received||Money spent|
|Result of credit sales||Result of credit purchases|
|Amount received by your company||Amount paid by your company|
|Generates future cash inflows||Generates future cash outflows|
|Registered as an asset||Recorded as a liability|
What are accounts payable?
Keeping control of your accounts payable is essential. Knowing how much your business owes will help you avoid late payments and additional charges.
Accounts payable are short-term debts owed to your vendors and vendors, so they are generally considered liabilities. Here are some examples of accounts payable transactions:
- Buying goods or services from another business
- A loan from a bank or financial institution
- The purchase of raw materials
- Travel cost
These are different types of accounts payable:
- Willing to pay
- Non-commercial debts
- Trade debts
All of these items – with the exception of wages payable – are processed through the accounts payable system. Salaries payable are processed when your company manages payroll.
When recording an accounts payable transaction, you want to debit the expense from your account. For example, if your business purchases $ 500 worth of office supplies from Staples, your general ledger should show the debit from your accounts payable.
Here is an example of what this transaction would look like:
|03-Dec-20||Office supplies||$ 500||n / A|
|n / A||Accounts Payable – Staples||n / A||$ 500|
|n / A||Supplies purchased on account||n / A||n / A|
What are accounts receivable?
Accounts receivable are money owed to your business by your customers. Since accounts receivable payments generate future cash flow for your business, they are considered an asset. Managing accounts receivable means becoming an effective debt collector.
Examples of accounts receivable include a telephone company that charges a customer for their monthly cell phone use. While waiting for the customer to pay the invoice, the accounting department would mark it as an unpaid invoice on their accounts receivable. Any good sold or service rendered is considered a debt.
It is the responsibility of your business to bill your customers for any service rendered. Your invoice will include the product or service rendered, the payment amount, sales tax and the due date.
To register accounts receivable, you must first make sure the debit is receivable, and then credit the product account. When the customer pays their invoice for the services rendered, your business will debit the cash amount and credit the debit account.
If the invoice is for product sales, you’ll want to add an inventory reduction to your balance sheet. For example, if your business finalized a sale of $ 30,000 and $ 15,000 came from product sales, this is how you would record that information in your general ledger:
|Accounts receivable||$ 30,000||n / A|
|Sales||n / A||$ 30,000|
|Cost of goods||$ 15,000||n / A|
|Inventory||n / A||$ 15,000|
Finally, it is essential to establish a credit approval process for your customers. This process includes creating a credit application and credit terms.
Discounts on accounts payable and receivable
There are many advantages to paying off an account before it is overdue. Some vendors will be willing to offer you a discount for paying your invoice within 10-14 days of the original due date.
If a vendor offers an early payment discount, your business will save money by paying early. And the seller benefits by receiving payment up front and having additional access to cash flow.
While a minor discount might not seem like much, it can dramatically improve your business’s bottom line. Even receiving a 2% discount can improve long-term returns.
If you receive a prepayment discount, you should note the discount in the general ledger to avoid any future discrepancies. For example, suppose your business offers a 10% discount if the invoice is paid at least a week in advance.
In this case, the journal entry would read as follows:
|Cash||$ 900||n / A|
|Delivery||$ 100||n / A|
|Accounts receivable||n / A||$ 1,000|
Finally, there are usually guidelines on how to track the discount offered. For example, if you pay the invoice within 10 days for a 4% discount, the note on the invoice should say 4/10. Both digits may change depending on the exact rebate and the due date to receive the rebate.
Monitoring of accounts payable and receivable
To track accounts payable and receivable, keep every receipt, invoice, and order. If even a single bill slips through the cracks, your financial records will be out of balance.
Keeping track of your financial accounts right from the start will help your business succeed in the long run. Plus, it will show your customers that you operate your business in a professional manner.
You should also keep up to date with due dates for customers and suppliers. Managing the money you owe and the money owed to you will ensure that you receive and make your payments on time.
It’s also a good idea to keep an eye out for aging accounts. These are accounts that were not paid on time and can be overlooked.
How accounting software can help you
It pays to invest in feature-rich accounting software to help you manage both accounts payable and receivable. Here are some advantages of investing in accounting software:
- This reduces errors. Software programs can reduce errors by eliminating manual data entry.
- You can set up invoices. Use accounting software to set up recurring invoices and track customer information.
- You can track supplier payments. You can use accounting software to manage vendor payments and make sure you don’t miss a due date.
- You can run reports. You can also use accounting software to run daily and monthly reports, such as an income statement, balance sheet, or cash flow statement.
Accounting software will save you precious time by doing some of the more tedious work for you. The software you use will depend on the type of business you run, and most software can be customized to meet your specific needs.
Proper accounting minimizes errors
Accounts payable and receivable are necessary to ensure you are accurately tracking your cash flow and expenses. It’s important to understand the difference so you don’t accidentally mix up the two in your ledger.
When your business is properly tracking its accounts payable and receivable, it is more likely to encounter no errors. This accuracy is vital if you do not have a large accounting department handling your business’ financial information.
Finally, it’s a good idea to use accounting software to record and track your business’s financial information. The right software will save you time and money, and help you avoid mistakes that could hurt your bottom line in the long run.