What Are Accounts Receivable?
Written by Eddy Hood
Sometimes accountants use unusual jargon that sounds strange in everyday speech. One of the most common phrases you may hear when working alongside an accountant is “accounts receivable.” But what is accounts receivable?
A Definition of Accounts Receivable (AR)
Accounts receivable is any money owed by customers to a company. In other words, it’s money that a company has a right to receive because it has provided a product or service. However, the company has not received the money yet.
A customer often receives some sort of product or service but has an amount of time, or a term, to pay the amount owed. The term, which is often 30, 60, or 90 days, provides some flexibility to the client, customer, or other company to pay it off.
For example, Sue wants to buy a $3,000 gazebo but doesn’t have that amount at the time of the sale. The gazebo-sellers would allow her 30 days to pay off her debt. During that time, the sellers would have $3,000 listed in their accounts receivable. When she pays it off, that amount would go back to the sales amounts or cash flow.
What if Sue doesn’t pay off the gazebo within 30 days? The money would still be owed, and the company would be out the money. That’s why accounts receivable are listed differently than sales. The next step is to contact the customer or to move on with contacting a collections agency. It’s important to note that companies that sell on credit may not have an actual lien on the property. This means that the full amount on the property may not be collected.
The Pros and Cons
There is a potential risk with having a large amount of accounts receivable. By definition, the success of the concept depends entirely on the reliability of the debtors. It’s also an important responsibility of the company to follow up with outstanding invoices or payments. An “aging” account receivable is dangerous, as it is unlikely to be paid back in full.
Why would anyone award a customer credit like this, since it is so potentially problematic? In terms of bookkeeping, it can have a positive effect. It is considered to be a part of “working capital” and is considered an asset on balance sheets. It also provides a trusted group of customers with enough flexibility to pay large sums. Certain industries do very well with having working, regulated accounts receivable.
What Can a Company Do to Make Sure These Accounts Are Paid?
Companies can employ a variety of tactics:
- Charge a late fee for outstanding payments or otherwise penalize customers in some way
- Reward good behavior by offering a discount to those who pay quickly
- Have an efficient follow-up process for these accounts
- Use a reliable collections agency
- Keep better track of these accounts with an in-house or outsourced accounting firm
To learn more about what is accounts receivable and how management of these accounts can help your company, contact us at Ignite Spot today. We offer online accounting services that can help a small business stay on top of its accounts receivable and many other common bookkeeping issues. Download a free audiobook about financial success now!
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