If you’ve ever had a customer say, “Send me the invoice, and I’ll pay later,” then you’ve handled accounts receivable (AR). AR is the money owed to companies for goods and services that they’ve already provided but haven’t yet been paid for. Even when these payments become overdue – which, in 2023, occurred for 55% of all business-to-business (B2B) invoiced sales in the United States – they stay in AR until they’re paid.
Managing AR is an important and sometimes tricky aspect of keeping business finances in check. Below, we’ll discuss exactly what AR includes, how it’s recorded in your accounting system, and why it matters so much for a business.
What’s in this article?
- What is accounts receivable?
- What type of account does accounts receivable belong to?
- What is the difference between accounts receivable and accounts payable?
- How is accounts receivable recorded in accounting?
- How does accounts receivable impact financial statements?
- What are common challenges with managing accounts receivable?
What is accounts receivable?
Accounts receivable is the money customers owe your business for goods or services they’ve already received. For example, if a software consultant completes a project and sends an invoice for £10,000, that’s £10,000 now sitting in their AR – waiting to be collected but not yet available for them to spend.
AR is common in B2B transactions or industries where customers expect to pay later. The payment has already been agreed to and documented with an invoice or payment terms, but it hasn’t yet entered your bank account.
What type of account does accounts receivable belong to?
In accounting, accounts receivable is classified as a current asset. Assets are resources your business owns or controls that provide economic value, and “current” assets refer specifically to those that are expected to be converted to cash within a year. AR is typically paid within 30, 60, or 90 days, making it part of the short-term category. Current assets also include cash, inventory, and short-term investments.
Banks, investors, and accountants look at current assets to assess your business’s liquidity (your ability to cover short-term obligations such as payroll and rent). If you have too much AR relative to actual cash, they might consider it a sign that you’re overextended and overly reliant on your customers paying on time. Businesses often pair AR management with tools such as Stripe Payment Links and automated billing systems that can help encourage customers to pay promptly. The faster AR turns into cash, the healthier your financial position becomes.
What is the difference between accounts receivable and accounts payable?
Accounts receivable is money coming in, while accounts payable (AP) is money going out. AP is what you owe to others (e.g. suppliers, vendors, contractors). AR is an asset, while AP is a liability. For example, if your business is a bakery, AR might include an invoice you sent to a local café for supplying pastries, while AP might include the bill you need to pay for flour.
How is accounts receivable recorded in accounting?
To track accounts receivable, document what you’re owed and when it’s due, and update your records when you receive payment. Here’s how to do so:
After delivering your product or service, create and send an invoice. This is your formal request for payment, with details such as the amount, due date, and payment terms.
In your accounting system, record the sale by debiting AR and crediting your sales revenue. This reflects that you’ve earned the income but haven’t yet received the cash.
When the customer pays, record the payment by debiting your cash account and crediting AR.
Monitor overdue invoices to see which customers need follow-up reminders. Many businesses use an AR aging report to categorise unpaid invoices by how long they’ve been outstanding (e.g. 30 days overdue, 60 days overdue), and they prioritise the invoices that are most overdue.
Technology can help complete these steps with less manual intervention. Stripe Invoicing can automate payment reminders, accept online payments, and sync sales and payments with your accounting software.
How does accounts receivable affect financial statements?
Accounts receivable appears on multiple financial statements and affects your overall financial position. Stripe’s analytics tools can help you observe these ripple effects: for example, you can track how long customers usually take to pay or see how AR trends affect your liquidity over time.
Here’s how AR affects financial statements:
Balance sheet: AR is listed under current assets in the balance sheet. A high AR balance might indicate strong sales, but if it grows too large, it could mean trouble collecting payments.
Income statement: Revenue tied to AR appears in the income statement. Any unpaid invoices that turn into bad debts are recorded as expenses and reduce your net income.
Cash flow statement: Increases in AR reduce your cash flow from operations, because it represents money earned but not yet received. Conversely, a decrease in AR increases your cash flow.
What are common challenges with managing accounts receivable?
Managing accounts receivable might sound straightforward, but it can be one of the more difficult parts of running a business. Here are some common challenges:
Overdue invoices: Late payments disrupt cash flow and can leave you struggling to cover expenses. Automated reminders, such as those enabled by Stripe, can minimise the effort of chasing payments.
Bad debts: Sometimes, customers simply don’t pay. Writing off bad debts directly lowers profits. Credit checks and partial prepayments can reduce this risk.
Inconsistent records: Mismanaged AR leads to missed invoices or double entries. Tools that integrate AR with your accounting system, such as Stripe’s QuickBooks integration, can keep records accurate and up-to-date.
Scaling issues: The more your business grows, the harder it becomes to track AR manually. Stripe’s automated invoicing and real-time reporting can scale with your business and keep AR management efficient.
Payment problems: Complicated payment processes can delay receivables. Offering multiple payment options (e.g. credit card, bank transfers) removes barriers. Choose a payment processor such as Stripe that can support a wide range of methods.
The content in this article is for general information and education purposes only and should not be construed as legal or tax advice. Stripe does not warrant or guarantee the accuracy, completeness, adequacy, or currency of the information in the article. You should seek the advice of a competent lawyer or accountant licensed to practise in your jurisdiction for advice on your particular situation.