When it comes to running a business, there are few thigs more daunting and complex than bookkeeping and accounting. This is even more so the case when dealing with multi-national companies that have interests and investors around the globe. For that reason there are generally accepted accounting principles (GAAPs) which act as guidelines for writing and maintaining financial statements. But what...
Accounts payable accounting is an essential part of a company’s accounting – it deals with creditors, i.e. all persons and organizations that make demands on the company. Accounts payable accounting has a number of tasks. These include entering and checking incoming invoices and preparing the corresponding payments for release and payment. The invoices must also be entered in the accounting system. This takes place after their formal and factual verification through their account assignment – that is, their assignment to the appropriate accounts and through their posting, as well as the posting of corresponding payments. Finally, the invoices are archived in accordance with the legal requirements.
- Accounts payable and accounts receivable: What is the difference?
- What is accounts payable accounting?
- Invoice Verification
- Organization of payments
- What are credit memos for accounts payable accounting?
- An example
- Conclusion: Accounts payable accounting is essential
Accounts payable and accounts receivable: What is the difference?
Accounts payable: Accounts payable accounting is an area of a company’s financial accounting. This is where all business transactions relating to external vendors are brought together.
Accounts payable accounting is the exact counterpart to accounts receivable accounting which deals with accounts receivable – that is, debtors to the company. For creditors, on the other hand, the company is the debtor: It owes the supplier or service provider money for goods or services purchased.
What is accounts payable accounting?
Put simply: Accounts payable accounting takes care of incoming invoices. For example, if a company employs a service provider or orders spare parts, the resulting invoices end up in accounts payable. Depending on the size of the company, it can form its own department or simply be part of the range of tasks in accounting as a whole.
The orderly accounting of a company requires that the incoming invoices and the resulting payments are correctly processed. The invoice amounts should be credited under payables. The offsetting account is an expense account in debit. The sales tax, on the other hand, belongs separately to the input tax account: The sales tax is just a transitory item.
Also, regulation-compliant archiving is important as storage duration is often legislated. For the purpose of archiving, invoices are ideally arranged in a filing system in such a way that they can be found both chronologically and alphabetically. After the retention period has expired, the accounts payable department may then destroy the invoices. Secure electronic storage is also permitted.
However, two further tasks of accounts payable accounting are of great importance for the success of a company: Invoice verification and the organization of payments (also known as payment management).
Checking incoming invoices is an important task for accounts payable accounting. Errors that occur here can quickly lead to financial loss. Invoice verification is divided into two phases:
The first step is always to check an invoice for formal correctness. Does the invoice contain all prescribed elements (e.g. recipient address, date, invoice number)? Are these elements specified correctly? This may seem exaggerated, especially in the case of invoices from known, perhaps long-standing business partners – after all, you trust one another. Some companies even send invoices informally as email attachments. Finally, ensure that the invoice is error free. Are the items formed correctly and correspond to number and unit price? Is the total price correct, and is the sales tax calculated correctly?
The second phase of the verification consists of two parts:
Step 1: Checking the conditions
The accounts payable department works closely with the goods purchasing department: Do the prices and delivery conditions on the invoice correspond to the agreed conditions? Are the terms of payment and any special conditions (e.g. discounts) as agreed? Many companies use the Three-Way Match method:
The “three-way” part of the three-way match refers to the three documents that will be compared:
- The vendor's invoice that was received and will become part of an organization's accounts payable when it is approved
- The purchase order that was prepared by the organization
- The receiving report that was prepared by the organization
Step 2: Comparison with the delivery
This is where the acceptance of goods and the recipient of delivered goods or services come into play: Does the invoice match the delivery note? Does the delivery correspond to the agreements in terms of quantity and quality? Is the delivery complete and on time? Do you have any complaints?
After the invoice verification, the accounts payable department clarifies open questions with suppliers in accounts payable. If an invoice is incorrect or inaccurate, then request a correct invoice. The same happens if there are invoices with prices and conditions that have not yet been agreed to. In the event of complaints, the purchasing department usually negotiates a price reduction or cancels the order if necessary. In practice, it is also quite common for companies to reduce invoices in view of the deliveries and services actually received. The accounts payable department then also takes care of the corresponding adjustment postings.
Communication with vendors is also part of the accounts payable area of responsibility. This department should keep in touch with them, especially for any questions arising from invoice verification.
Organization of payments
The third important task of accounts payable accounting is to organize a company’s payments in such a way that errors do not occur and unnecessary losses are incurred. It is important to keep track of incoming invoices and to prepare and carry out the necessary payments in the same way as the invoice audit has shown, without errors occurring. The following errors are by no means rare, and good accounts payable accounting helps to avoid them:
- A bill is forgotten
- An invoice amount is paid incorrectly or twice
- Suppliers are confused, and a payment ends up in the wrong account
All such cases cost time and effort – and possibly even unnecessary dunning costs and interest on arrears. However, payments should also be organized in such a way that it is financially most advantageous for the company.
There are also advantages to paying invoices as late as possible – i.e. past the fixed payment deadline. After all, this period acts like a credit granted by the supplier to their customer over the period in question. However, for a good relationship with the supplier, it can also be beneficial to pay earlier.
Many suppliers give a payment period (e.g. 30 days), but offer a discount if you pay earlier (e.g. within 7 days). Companies like to use these offers and will pay accordingly. However, they have to keep an eye on their finances: It is possible that the cash is insufficient at an earlier point in time or that financing costs (interest) will be incurred that exceed the cash discount saved.
Another reason for early payment may be that the supplier has promised a bonus for a certain sales target – linked to the actual receipt of payment. It may then be more advantageous to pay for this bonus before the key date rather than at the end of the payment period.
What are credit memos for accounts payable accounting?
Accounts payable accounting is also responsible for credit memos for the company’s vendors.
If a company complains about a delivery or service and returns it or agrees to a price reduction, the supplier issues a credit memo for the corresponding amount. In the same way, a rebate granted by the supplier for a volume of sales takes the form of a credit memo. In both cases, the accounts payable department posts the amount in question, including sales tax.
In addition to processing all transactions related to incoming invoices, a company’s accounts payable department has a number of other tasks. These include:
The data of all creditors with whom a company does business is stored in a database – addresses, contact persons, bank details, but also business transactions such as orders, deliveries, payments, sales, complaints and more. This data must be recorded and maintained. Ideally, such a database should be part of an operating accounting software, so that a large part of the data also flows automatically into it.
Accounts payable accounting is also responsible for recurring payments or debits. These can be rent or lease payments, for example. The department sets up corresponding standing orders or issues direct debit authorizations and keeps an eye on whether these payments are made on time and in the agreed amount. The accounts payable department can also make other payments, such as travel expenses, as required.
Company A orders 1000 screws from company B. To organize the related processes, accounts payable first creates a master data record for company B as the vendor. To do this, it also assigns a vendor number.
The screws finally arrive and the bill is enclosed. The accounts payable department checks them for accuracy, and notes the accounts payable number so that the transaction can be easily traced later. Now the posting record follows, so that the correct accounts are also debited. The invoice is then sorted together with other incoming invoices. This is because there may be invoices that are due in advance or that are to be paid with priority.
When the payment deadline is reached, the accounts payable department submits the invoice to management for approval and then arranges for the outstanding amount for screws to be paid to company B – usually via online banking.
The paid invoice is now archived – either in a folder or electronically. In the event of a tax audit, it is immediately available.
Conclusion: Accounts payable accounting is essential
Accounts payable accounting is indispensable for larger companies, but also very useful for smaller companies. It is dedicated solely to accounts payable. If a company purchases goods or services, accounts payable accounting takes over all the associated accounting and organizational tasks. With a department that only deals with creditors, you can ensure that your payments are organized in the best possible way.
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