What Is Accounts Receivable?

Definition and Examples of Accounts Receivable

Accounts receivable is the balance owed by customers to a business for goods and services that the latter has sold or provided on credit. In other words, any money that a business has a right to collect as payment is listed as accounts receivable.

• Alternate name: Unpaid invoice, balance due
• Acronym: AR

For example, say a plumber is called to repair a busted pipe at a client’s house. Once the plumber completes the job, they give the invoice of $538 to the customer for the completed job. That customer’s bill of $538 will be recorded by the plumber as accounts receivable while they wait for the customer to pay the invoice.

How To Record Accounts Receivable

Accounts receivable are recorded in a business’s general ledger and reported as part of the current assets listed on its balance sheet since these receivables are expected to be paid and converted into cash within a year. So if your photography business invoices a client for $250 for a photo shoot, $250 would be debited from the accounts receivable and credited to sales on the general ledger. The accounts receivable balance would show up under current assets on the company balance sheet. Once the payment is received by the customer, the business can then record the payment.

Accounts Receivable for Business Analysis

The accounts receivable turnover ratio shows the rate at which accounts receivable is collected on an annual basis and is calculated using this formula:

Net annual credit sales ÷ average accounts receivable 

The calculation for average accounts receivable itself is:

(Beginning accounts receivable + ending accounts receivable ÷ 2)

Investors and lenders often review a company’s accounts receivable ratio to determine how likely it is that customers will pay their balances. It’s important to note that your business can have a high number of sales but not enough cash flow because of uncollected receivables. Uncollected accounts receivable can hurt your business by reducing your liquidity and limiting your company’s prospects.

Accounts Receivable vs. Accounts Payable

Accounts receivable and accounts payable are essentially on opposite sides of the balance sheet. While accounts receivable is money owed to your company (and considered an asset), accounts payable is money your company is obligated to pay (and considered a liability).

For example, it’s standard practice for a physician who has conducted a client exam to send an invoice to the client’s medical insurance company. That physician may also invoice the customer for any remaining balance the insurance did not cover. The physician’s office would then record both balances owed in its accounts receivable until it receives payment. From their end, the insurance company responsible for a portion of the client’s payment will document the balance it owes to the physician as accounts payable.

Accounts Receivable Time Frame

Consider how long your business will extend credit to a customer. Typically, accounts receivables are due in 30 to 60 days and are considered overdue past 90. The timing can depend on your industry.

Generally, collecting a balance too quickly can put undue stress on clients with good standing. However, waiting too long to collect can cause you to lose the opportunity for payment. Selecting the ideal times to allow delayed payment will help you keep a good balance between being flexible and ensuring prompt payment.