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What is Accounts Receivable System (AR)? PDF Print E-mail
Written by Cecilia Chee, Singapore   
Monday, 03 October 2011 18:19

 

 

Accounts Receivable (AR)

 

Accounts receivable also known as Debtors, is money owed to a business by its clients (customers) and shown on its Balance Sheet as an asset. It is one of a series of accounting transactions dealing with the billing of a customer for goods and services that the customer has ordered.

Let's assume that instead of requiring customers to pay instantly, in cash, you issue them an invoice, and give them 30 days to pay the bills. (After 30 days, we start charging interest and sending out harassing letters. When we make a sale, the two accounts affected are Sales (an income account) and Accounts Receivable. Accounts Receivable is an asset, but it's not "liquid," as you can't readily sell it, and it's certainly not cash. When the customer pays the bill, you transfer the amount from A/R to Cash. This is done in two steps because you have decided to do your accounting on an accrual basis and not on a cash basis. This is because most of your transactions are not solely based on cash changing hands, but rather based on establishing obligations.

In more sophisticated operations, there may be a much more complex sequence of documents generated and tracked:

  • A customer sends in a Purchase Order, which authorizes a purchase.
  • Work Order to schedule production of whatever the customer is buying.
  • Shipping Notice is issued, to ship to goods to the customer.
  • Once shipped, an Invoice is issued, representing the request to pay.

Sales are reported as soon as they occur. Unfortunately, you may wind up selling some product to no-good shady operators that you didn't know were shady, and thus may get stuck with some "bad debts." In order to determine which parts of Accounts Receivable appear to be most at risk, it is typical to arrange A/R based on the "ages" of the debts, commonly segmenting it into several aging periods, of payments outstanding 0-30 days, those that outstanding 31-60 days, 61-90 days, and then those that are way overdue. At some point, it may become clear that a customer is never going to pay what they owe, and we have to write it off as a Bad Debt. At that point, it is typical to record an entry thus:

 Bad Debt Expense Example

Account

DR

CR

Bad Debt Expense

$10,000

 

 

 

 

Accounts Receivable

 

$10,000

You could have reduced Sales Income instead, but companies tend to prefer to specifically track the amount that they're losing to bad customers.

 

Last Updated on Monday, 03 October 2011 19:38
 
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