Definition of Accounts Receivable
Accounts receivable is the amount owed to a company resulting from the company providing goods and/or services on credit. The term trade receivable is also used in place of accounts receivable.
The amount that the company is owed is recorded in its general ledger account entitled Account Receivable. The unpaid balance in this account is reported as part of the current assets listed on the company’s balance sheet.
When goods are sold on credit, the seller is likely to be an unsecured creditor of its customer. Therefore, the seller should be cautious when selling goods on credit.
Good accounting requires that an estimate should be made for any amount in Account 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 number of accounts receivable reported on the balance sheet to be reduced. Any adjustment to the Allowance account will also affect the Uncollectible Accounts Expense, which is reported on the income statement.
Where do I find accounts receivable?
You can find accounts receivable under the ‘current assets’ section on your balance sheet or chart of accounts. Account receivable is classified as an asset because they provide value to your company. (In this case, in the form of a future cash payment.)
Example of Account Receivable
A manufacturer will record an account receivable when it delivers a truckload of goods to a customer on June 1 and the customer is allowed to pay in 30 days. From June 1 until the company receives the money, the company will have an account receivable (and the customer will have an account payable).
Why are Accounts receivable important?
The businesses usually have invested money in selling a product or delivering a service. After selling the goods, the inventories reduce, and in turn businesses need an asset to balance the financial statements. Either that assets are cash-in-hand or receivables in case of credit sales and that’s why account receivable appear in the assets side of the balance sheet.
As account receivables form a major part of the organization’s asset, it leads to the generation of cash in-flow in the books of the organization. The idea behind providing a credit facility to the customers is to facilitate and ease the process of the transaction and establish a strong credit relationship between the parties involved. It may lead to better deals or increase the chances of improving working capital management.
Account Receivables vs. Accounts Payable
When a company owes debts to its suppliers or other parties, these are accounts payable. Accounts payable are the opposite of account receivable. To illustrate, imagine Company A cleans Company B’s carpets and sends a bill for the services. Company B owes them money, so it records the invoice in its accounts payable column. Company A is waiting to receive the money, so it records the bill in its account receivable column.