What Is Accounts Payable?

Accounts payable is the amount of money you owe to suppliers or vendors for purchasing products or services, and it is recorded as a current liability. In simple terms, it tracks the funds a business owner is liable to pay when transacting with suppliers or vendors.

Essentially, it represents outgoing cash flow and reflects the money owed to suppliers or vendors for services received on credit. The accounting team ensures they create expense reports to make payments on time, fostering healthy relationships with everyone you work with.

Example of an Account Payable

Imagine you are running a local café and order coffee beans worth $800 from the supplier. You got an invoice on September 1 with net 45 payment terms and no discount for early payment. The accounting team will record this as an accounts payable entry, reflecting your obligation to pay $800 to the supplier. Before October 15, your team settles the amount and updates the records, reducing accounts payable by $800 while increasing its inventory account for the received supplies.

What Is Accounts Receivable?

Accounts receivable refers to the funds owed to you by buyers who brought products or services from you but haven’t made the payment. It is labeled as a current asset on your sheet. As long as amounts are recorded in accounts receivable, you have the legal right to collect payments from clients who have received products or services from your company.

This represents incoming cash for your business, which could be owed by enterprises, banks, or individuals. The accounting team must maintain accounts receivable in the company’s ledger until the payments are received.

Example of an Account Receivable

Let’s say you own a graphic designing agency and have already provided branding services to clients worth $1,800. Next, you will create an invoice with net 45 payment terms to allow clients to complete the payment within 45 days. As soon as you issue an invoice, the amount must be recorded in your account receivable, expecting the payment to be settled within a specified period. Now the amount remains in accounts receivable on the company’s ledger until the client makes the payment.

What are the Differences Between Accounts Receivable and Accounts Payable?

Accounts payable and accounts receivable are distinct from each other as one signifies incoming cash flow while the other represents outgoing cash flow. In case you fail to maintain the record of AP or AR accurately, then you may face unexpected challenges that may impact your company’s bottom line.

Let’s check out the main difference between accounts payable and receivable.

1. Record on the balance Sheet

Accounts payable are money a business owes to its suppliers or vendors for purchases they made on credit, which is why they are recorded as current liabilities on the balance sheet. They indicate the company’s obligation to pay the due amount.

Whereas, accounts receivable is the money owed to the business by individuals who received goods or services. Therefore, they are recorded as current assets on the balance sheet as businesses expect them to be converted into cash.

2. Recognization

Accounts Payable is recognized as a liability until paid. This is because when you make a purchase from a supplier or vendor, you agree to pay the outstanding amount in a given time. Therefore, it is a payable entry, indicating the company’s obligation to settle the dues.

Accounts Receivable is recognized as income when a company already delivered goods or services but has not received payment from its customers. Therefore, it creates a receivable entry, signifying that the customer has an obligation to pay the money at the earliest.

3. Auditing Process

In accounts payable, auditors review the company’s obligations to pay money to the suppliers or vendors by examining purchase orders, invoices, and payment records to confirm the legitimacy of the liabilities. Following that, cross-verification is done with vendor statements to ensure the company’s records are accurate, minimizing the chances of errors.

On the contrary, auditors verify the accuracy of the amounts owed by customers while accounting for receivables. They check sales records, invoices, and payment histories to ensure proper documentation. They verify AR balances with customers to ensure the authenticity of the receivables.

Best Practices for Accounts Payable

Here are some best practices to be implemented for accounts payable.

1. Optimize the Accounting process

Consider optimizing your accounting process in such a way that you can manage accounts payable efficiently. You can set standardized procedures, define clear policies, and if needed implement consistent workflows. Also, you can utilize several tools providing AI & ML algorithms to predict payment times.

2. Centralize Data

Centralizing your accounts payable data via a unified system can simplify the management of accounts payable. It’s also a great way to mitigate the risk of data duplication as you will have a single source for financial reporting and decision-making. Centralizing the entire data, invoices are automatically sent to the right person for approval based on their role or authority level.

3. Work on Accuracy

Prioritize accuracy level when accounting for payables by regularly reconciling AP records with the company’s general ledger and bank statement to make sure there are no discrepancies. Otherwise, you are likely to face costly mistakes. As a result, you need to conduct auditing of AP on a regular basis.

4. Leverage the Use of Automation Software

Utilizing automation tools for accounts payable can really aid in increasing efficiency without doing any manual things. You can track payments and check compliance with standard rules and regulations just by using the software. So, you don’t need to work hard or waste time on manual data entry, which means you can focus more on building business strategies.

Best Practices for Accounts Receivable

Some of the best practices for accounts receivable are mentioned below.

1. Adopt paperless invoicing

One of the best practices for accounts receivable is to go paperless. You can create digital invoices using online templates rather than just making them on paper. This method not only saves time but also frees up office storage space as invoices can be stored in the cloud. Importantly, paperless invoices lead to faster payments because they offer more clarity to clients.

2. Automate payment reminders

Setting up auto payment reminders is another best practice to adopt while accounting for receivables. With auto reminders, you neither need to engage in phone calls nor waste time chasing payments. You can automatically inform clients about the due amount and the due date to tackle the payment delays.

3. Flexible payment methods

Roll out multiple payment options for clients to enhance your incoming cash flow and cut off longer wait times. You can offer ACH transfers, eWallets, net banking, and credit cards alongside cash payments. Nowadays this has been a common practice but still the best one to reduce account receivables and make sure you clear your business expenses on time.

4. Track metrics regularly

Keep track of metrics like days sales outstanding (DSO) and collection times for managing accounts receivable. Regular tracking allows you to identify red flags early and take proactive steps to ensure your company’s financial stability. Utilizing advanced tools can level up accuracy, and aid in making informed decisions.

Why are Accounts Payable and Receivable Important?

Since you have fixed and variable expenses every month, you need to manage accounts payable and accounts in order to make sure money keeps coming into your business. That’s how they collectively play a significant role in your cash flow management.

Also, proper AP and AR practices are crucial for maintaining positive relationships with suppliers and vendors you work with on a daily basis. When you have maintained clear records of AP and AR, it builds trust among your suppliers and they may offer you early discounts.

Managing both AP and AR can capture the attention of lenders and investors who are interested in your company. Moreover, these processes ensure compliance with accounting principles, providing a magnified view of your company’s financial health. This clarity enables you to create a robust financial plan for the next year.

How to Handle Accounts Payable and Receivable

Accounts payable and receivables are easy to handle when using automation software like Moon Invoice. Here’s what you need to consider for AP and AR management.

Prioritize Automation

Automate the way you manage accounts payable and accounts receivable to maintain error-free records digitally rather than doing paperwork. Ditch the conventional way of making hand-written entries on the ledger and start automating the process of managing AP and AR effortlessly.

Get the Right Software

Invest in advanced accounting software like Moon Invoice to manage AP and AR easily on the cloud-based platform. With Moon Invoice, you can keep a tab on unpaid invoices, enable automated payment reminders, and eventually get rid of payment delays. You can check the payment status, business reports, and summary reports on the go.

Conclusion

To wrap it up, accounts payable is business expenses and accounts receivable is revenue. If they are balanced, you can have stable incoming cash flow that can be utilized to cover up business expenditures. As a result, you can continue operating your business normally and also make the most of growth opportunities.

If managing AP and AR is still challenging for you, we recommend trying Moon Invoice for unmatched automation and robust financial reporting. You can generate accurate reports in the blink of an eye, check unpaid invoices, track expenses and whatnot. Avail a free trial to explore more.

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