Definition of Accounts Receivable

Accounts receivable (AR) refers to the money a business is owed by customers for goods or services that have been delivered but not yet paid for. These amounts are recorded as a current asset on the company’s balance sheet and represent outstanding invoices.

In Canada, businesses manage accounts receivable under International Financial Reporting Standards (IFRS) or Accounting Standards for Private Enterprises (ASPE) to ensure accurate financial reporting and compliance with the Canada Revenue Agency (CRA).

For example, if a Montreal-based business provides consulting services to a client on credit, the unpaid amount is recorded under accounts receivable until the client settles the invoice.

Purpose of Accounts Receivable in Business

Accounts receivable plays a crucial role in financial management and business growth, offering several benefits:

1. Ensuring Steady Cash Flow – Helps maintain liquidity while awaiting payments.
2. Building Customer Relationships – Allowing credit purchases increases client trust.
3. Tracking Revenue Accurately – Ensures all earned income is recorded.
4. Improving Financial Planning – Helps businesses forecast income and manage expenses.
5. Compliance with Tax Regulations – Ensures proper revenue reporting for CRA filings.

Accounts Receivable Process

1. Issuing an Invoice

After providing goods or services, the business generates an invoice with payment terms, such as Net 30 (payment due in 30 days).

2. Recording the Invoice

The amount is recorded in the accounts receivable ledger, reflecting the outstanding balance owed by the customer.

3. Payment Collection

Businesses follow up with clients to ensure timely payments, often sending reminder notices or offering discounts for early payment.

4. Recording the Payment

Once the customer pays, the receivable is cleared from the ledger, and the cash balance is updated.

5. Managing Overdue Payments

If payments are overdue, businesses may charge late fees, negotiate payment plans, or send the account to a collections agency.

Accounts Receivable vs. Accounts Payable

• Accounts Receivable (AR) – Money a business is owed (assets).
• Accounts Payable (AP) – Money a business owes to suppliers (liabilities).

For example, when a supplier provides raw materials on credit, they record the transaction as accounts receivable, while the purchasing business records it as accounts payable.

Advantages and Disadvantages of Accounts Receivable

Advantages

• Increases Sales Opportunities – Offering credit can attract more customers.
• Improves Cash Flow – Helps businesses manage revenue while awaiting payments.
• Enhances Customer Relationships – Providing flexible payment options strengthens trust.
• Provides a Clear Revenue Record – Helps track outstanding invoices.

Disadvantages

• Risk of Bad Debt – Some customers may default on payments.
• Delayed Cash Flow – Waiting for payments can strain liquidity.
• Administrative Costs – Managing receivables requires resources for invoicing and follow-ups.

Best Practices for Managing Accounts Receivable

1. Perform Credit Checks – Assess customer creditworthiness before offering credit terms.
2. Automate Invoicing – Use accounting software like QuickBooks, Xero, or Sage to streamline AR processes.
3. Set Clear Payment Terms – Define payment deadlines and penalties for late payments.
4. Follow Up on Overdue Invoices – Send reminders and escalate collection efforts when necessary.
5. Offer Payment Discounts – Encourage early payments with small discounts.

Interesting Fact

Did you know? In Canada, businesses must report accounts receivable as taxable income even if the invoice has not yet been paid, according to CRA regulations.

Statistic

According to CPA Canada, over 70% of Canadian businesses experience cash flow challenges due to delayed payments in accounts receivable.

Frequently Asked Questions (FAQ)

1. How do accounts receivable affect cash flow?

Accounts receivable represent future income but do not immediately contribute to cash flow until payments are received.

2. What happens if a customer does not pay their invoice?

Unpaid invoices may be written off as bad debt, reported to a collections agency, or pursued through legal action.

3. How can businesses automate accounts receivable?

Using software like SAP, QuickBooks, or Xero can automate invoicing, tracking, and payment reminders.

4. Are accounts receivable considered an asset?

Yes, accounts receivable are recorded as a current asset on the balance sheet since they represent money owed to the business.

5. How can businesses reduce overdue payments?

Implementing credit policies, automated reminders, and payment incentives can help reduce late payments.