Accounts receivable is an integral part of accounting because it shows you what money is owed to the business at any time. Understanding who has not paid your business is essential to running any small businesses, not just accounting. We recommend whoever you are working with for your bookkeeping, whether it be an internal person or an external company, that they can sit there and explain to you what is going on with your AR and that they are actually auditing your AR so it’s reflecting accurately.
There are two types of accounting: one is called cash basis, and one is called accrual basis. When you review your AR report on a cash basis, you reflect the money as paid, so no open balance should reflect on your AR report. The numbers should appear when you look at the AR report on an accrual basis. Invoices will reflect as owed once sent to the customer, not when the customer pays.
Whenever we, as Waterford, review our books with the clients, we ensure that it’s on an accrual basis. The revenue you have on an accrual basis shows you that you’re earning that money upon invoicing the customer, so you’ve already done the work, you’ve already finished the job, and now you’ve reflected that you’ve earned that money.
Understanding when income is recognized is vital when looking at our income statement because you incur expenses related to the same jobs. So, if you look at a P&L in a cash balance, the expenses could be in the prior month, making ratios inaccurate. You want to ensure you are viewing your revenue and expenses associated with one job in the same month.
What is accounts receivable?
It means you have done that job, invoiced it, and are waiting to be paid for it. If it is still on the AR report, the customer has not yet paid you. The most simple definition of AR, according to Investopedia, is “accounts receivable is an item on the company’s balance sheet that represents money due to the company for goods and services it has already delivered”
Account receivables reduce when the customer pays their open invoices or also known as outstanding invoices.
Some more complicated items regarding accounts receivable include deposits, writing off bad debt, and when you have invoicing software that integrates with your accounting software.
Starting with software integration, most of our clients have invoicing software that is a third party that integrates into QuickBooks. For example, we see HouseCall Pro very often and specialize in it. Whenever you create that HouseCall Pro invoice and press the buttons finish, invoice, or pay, that invoice syncs over into QuickBooks.
If you are paying the invoice at the same time that you are pressing the other buttons, say your tech is taking a credit card on-site, you will likely not see the invoice in your AR because it’ll be such a short period between the invoice being synced over and the payment being synced over.
However, suppose the tech in the same scenario leaves without securing the payment that day but presses the finish button, indicating that the job is complete. In that case, the invoice will push over as an open invoice. Open invoices mean that they are showing up on the AR report and are still due from the customer. A closed invoice means the company receives payment from the customer and the balance is no longer owed.
Another thing we see a lot with accounts receivable is that the integrations are not being audited regularly, so when you review your profit and loss statement on an accrual basis, your numbers are utterly inaccurate for income. It is essential to do these audits, especially if you are using the third-party integration because it is usually a one-way integration, so if you create that invoice. You sync it into QuickBooks.
However, if you delete the invoice in HouseCall Pro, Service Titan, or even Jobber, that invoice is not deleted in QuickBooks. A manual review of your AR before reviewing your other financial reports on an accrual basis for each month is necessary. The way that deleted or canceled jobs do not get removed from QuickBooks is a huge issue.
Besides the deleted jobs, the way that QuickBooks and these third-party integration software handle refunds is very different. One of the main reasons that we see negatives on an AR report is because of two reasons: one is ping refunds, and the other is tips.
I want us to start by talking about refunds. Using HouseCall Pro as our main example again, when a refund happens, the invoices reopen in HouseCall Pro. However, QuickBooks does not reopen the invoices.
The invoice not opening leads to people discounting or lowering the balance; the invoice has to be 0 out of the invoice in HouseCall Pro. That means that when you look at QuickBooks, you’ll see a ton of negatives because there is nowhere to go for that payment now.
The best way to handle this is to create a negative line item instead of adjusting the actual balance of your invoice so that you can delete that line item when you do a quick audit of your QuickBooks. Link to HCP REFUNDS BLOG in future
Tips are another reason that you may see small negatives on your AR report. If a customer pays with a check that has an extra $25 on it and you do not create a line item for the tip, that $25 is going to show up as a negative on your AR. So again, making sure to adjust that invoice so it reflects what actually occurs is very important to keep your AR accurate to review your financial health.
There are many other reasons why you may get negatives on an accounts receivable report; if you are looking into these issues, good places to start are refunds, tips, and sales taxes.
Moving into discussing our next complex topic in Accounts receivable: deposits. We see a lot of issues with accounts receivable reports and accuracy when it comes to taking deposits from clients. The best way to accurately have your accounts receivable reflect a deposit situation is when the business creates a separate invoice for the deposit so the revenue is recognized.
Then, however, say you only took 10% for a deposit. The other 90% is not recognized until the job is completed. The best way to reflect this is to create the entire invoice for the secondary 90% invoice, so if you had an invoice for $100 and took a $10 deposit, you would have two invoices.
Invoice Part 1 will be the $10 invoice paid before the job begins. Invoice Part 2 will reflect the complete $100 that this job is costing with a $10 negative line item to negate the already paid deposit.
Most of the third-party invoicing software does not do this automatically. Unfortunately, suppose you are looking at using software specifically because you do not want to do the manual side of deposits. In that case, it is unlikely that you will find one that handles it without simultaneously reflecting the entire job balance in your AR report.
Finally, the question is how I handle it: “I sent out this invoice, and the customer refuses to pay.” That means that you need to recognize this invoice as bad debt. There are multiple ways in QuickBooks to recognize bad debt, but the easiest way if you do not have accountant tools in your login is to create a product and service for bad debt and create a negative line item in QuickBooks for that product and service.
Another option, would be to use a journal entry but to do this, the person create the journal entry should feel confident in their understanding.
For an invoice to be considered as bad debt, the invoice should meet the following criteria: it is recommended that you have reached out to the customer in writing at least 3 times, and the invoice is over 90 days old.
The bottom line
AR is a critical piece of your financial statements. It doesn’t only affect your balance sheet directly but also records revenue on your profit and loss on an accrual basis. It is also one of the most understated and complex pieces of accounting to learn. So many scenarios can cause negative outstanding balances and misapplied payments to specific invoices that a constant audit is necessary.
If you have questions about your accounts receivable, let us know. If you think the person in charge doesn’t understand the integrations, we can help. If your financial advisor is not reviewing your accounts receivable, please contact us. We are happy to review what needs to be done to clean up the AR.
Check out our youtube video Introduction to Accounts Receivable for Contractors with James to give you a first hand recap.If you are still determining which plan works best for you or need additional help or have any questions, Waterford Business Solutions is happy to help. Feel free to call us at 864-351-0852 or email us at Info@WaterfordBusiness.com.
