Working with accounts receivable (AR) is common among businesses of all sizes. Unfortunately, it’s also common for customers and clients to make late payments, and sometimes they might even miss the payment altogether. 

Late payments and bad debt like this can be a headache for your business accounts, but there are certain steps you can take to prevent it. 

In this guide, we’ll cover the basics of accounts receivable and some methods you can use to help improve your AR management, including:

  • What is accounts receivable?
  • Keeping accounts receivable records. 
  • Proactive invoicing.
  • Taking action on pate payments.
  • Create custom invoices with Countiongup.

If you’re worried about how to deal with customers, specifically, check out our article, “How to handle late paying customers”.

What is accounts receivable?

Accounts receivable is an accounting term that refers to money that’s owed to your business for goods and services. Basically, you’ve sold something on credit, but you’ve not been paid yet. 

When you agree to this kind of payment with a customer, you’ll normally agree on payment terms, specifying when the amount needs to be paid and the consequences for late payments. 

In your balance sheet, you record accounts receivable as assets (a resource that can be used to generate income) because customers are legally required to pay their debt. After paying, you remove the accounts receivable amount and record the cash payment. 

If you don’t receive a payment, you can take legal action to pursue it. If the amount can’t be paid (for example, if the company that owes the money goes bankrupt), then the amount is referred to as bad debt. 

Why is accounts receivable so important?

In a perfect world, everybody would pay their invoices on time, but this often isn’t the case. And too many late payments can have a negative effect on regular cash flow. 

If you have too much of your money tied up in accounts receivable, then the value of the payments are still recorded, but you might not have enough actual cash to pay for necessary things like stock, subscriptions, or employee wages, and that can grind your business to a halt. 

In fact, it’s entirely possible for a business to be profitable on paper but have no readily available cash and have to stop doing business. 

That’s why good accounts receivable management is crucial. It will help you get paid on time so you can maintain a healthy cash flow and continue your business operations uninterrupted.

Keeping accounts receivable records 

The first step in accounts receivable management is organisation. You need to know exactly who owes you money, how much they owe, and how long they take to pay the debt. 

Accounts are usually measured in thirty day periods since you first sent the invoice, like this:

  • 0-30 days
  • 31-60 days
  • 61-90 days
  • Over 90 days

Keeping accurate records will let you know who to prioritise when chasing up debts, as well as how aggressive you need to be with your methods. But it also helps you calculate your accounts receivable turnover (ART).    

Accounts receivable turnover can tell you how often you’re getting payments for the money you’re owed and the average amount of time you need to wait for them. 

To figure out your ART, you need to know these figures:

  • Net credit sales: All recorded sales over a period where the cash is collected at a later date. 
  • Beginning accounts receivable: The amount of AR recorded at the start of the period.
  • Ending accounts receivable: The amount of AR recorded at the end of a period. 

When you know these figures, you then put them into this formula:

Net annual credit sales / ((Beginning accounts receivable + Ending accounts receivable) / 2)

For example, if you record net credit sales of £100,000 over a year, you start the year with £10,000 in accounts receivable and end the year with £15,000 in accounts receivable, then the formula would look like this:

ART = £100,000 / ((£10,000 + £15,000) / 2) 

Or

ART = £100,000 / (£25,000 / 2)

Or

ART = £100,000 / £12,500

In this example, you’d have an accounts receivable turnover of eight, meaning you received payments eight times, on average, over the course of the year.

You can then use this figure to calculate the average number of days it took for a payment to be made by dividing the score by the days of the year (365). 

In this case, it took an average of 46 days (365/8) for accounts receivable payments to be collected.  

Proactive invoicing

You don’t have to wait until payments are overdue before you start asking about payments. In fact, a bit of nudging by email is a totally legitimate strategy to ensure invoices are paid on time. 

Have a general timeline of invoice reminders for each of your clients. The initial invoice email should include details about payments terms, payment methods, and penalties for overdue payments. 

After the initial email, you can send a follow-up email with a copy of the invoice. Frame this email as a friendly enquiry, asking them to explain how they’ll be paying and if they need any assistance with the process. But really, this email is a gentle reminder. 

As the due date approaches, send another reminder email. Remind them of the late penalties and, again, ask them if they need help paying. By this point, most customers will have paid as they usually just need a bit of prompting. 

Once they’re late, your need to start being a little more aggressive. For a more in-depth look at this process and some useful email templates you can use, check out our other article, “6 overdue invoice email templates to get paid faster”.

Taking action on late payments

There are a number of reasons why a customer might be late on a payment. When it happens, there are a few actions you can take:

  • Apply a “statutory interest” charge (8%) to the payment. Only do this if you mentioned the penalty in your initial contract. Then, contact them with an updated invoice and explain the charges. 
  • Offer a payment plan: It might be the case that a customer can’t pay because of cash flow issues. If this is the case, you can work out a plan to help them pay you back in instalments. 
  • Warn them about taking legal action.
  • Take legal action: Contact a solicitor and get their advice. There are a few things they can do before pursuing court action. Going to court should be a last resort because it’ll cost you more money in legal fees that you might not get back. 

Create custom invoices in seconds with a simple app

With the Countingup app, you can create invoices in seconds, get notifications when you’re paid, and receive automatic invoice matching so you don’t have to worry about bookkeeping admin.

Countingup is the business current account with built-in accounting software that allows you to manage all your financial data in one place. With features like automatic expense categorisation, invoicing on the go, receipt capture tools, tax estimates, and cash flow insights, you can confidently keep on top of your business finances wherever you are. 

You can also share your bookkeeping with your accountant instantly without worrying about duplication errors, data lags or inaccuracies. Seamless, simple, and straightforward! 

Find out more here.

Related Resources

Read more