An accounts receivable balance refers to a company’s outstanding invoices that customers have not yet settled. In other words, it is the amount of money owed to a business by its customers for goods or services provided but for which it has not received payment. Accountants record this uncollected income as a normal debit balance or asset. So, how can it lead to a negative accounts receivable balance?
The Main Factors That Create Negative A/R Balances
Balance sheets must add up to a net balance of zero. That’s because the credit and debit entries should balance each other out. Several reasons might account for why you have a negative account balance. Consider whether the following reasons apply to your financial records.
Data Entry Errors
Data entry errors can happen if the user forgets to record a payment or enters it in the wrong column on the worksheet. For example, someone on the A/R team could have transposed numbers, entered a transaction for the wrong account, or extended credit to the wrong account. It can also happen when a customer is credited with too much money, leading to an overpayment that is not deducted from their total outstanding balance.
Incorrect Treatment of Prepayments
If a customer makes a prepayment for goods or services, someone may record the amount as part of accounts receivable on the balance sheet. But if the amount is not applied to an invoice or deducted from their total outstanding balance, this can lead to a negative account balance in your books. For example, a customer might choose to pay when he orders. If you record this as a debit before generating an invoice, it could create a negative balance.
Premature Debt Write-Offs
Your accountant might record a payment as a write-off if they believe the customer will not be able to pay off the debt. If you later receive payment, it can lead to an account with a negative balance. For example, a customer has an outstanding debt for 120 days and has yet to respond to requests for payment. During this time, a new manager takes over and makes it a priority to settle debts. She pays the outstanding balance of $150,000 in full. If not treated correctly, this payment could create a large negative balance.
Ad-Hoc Credit Extensions
Sometimes, companies extend additional credit as compensation or a bonus. Failure to communicate this with the A/R team could create a negative balance. For example, a customer orders 500 items and receives 450 due to an inventory management error. The account manager settles the dispute by extending a credit of $5,000 that the customer can use on the next order. Failure to communicate this to the A/R team could create a $5,000 discrepancy in accounting records.
Overpayment From Customers
The extra amount is usually recorded as an asset when a customer overpays an invoice. If there is no way to reconcile this amount with another invoice or account, it can lead to a negative A/R balance. For example, a customer pays an invoice of $100 but accidentally sends an additional $50 in payment. The A/R team credits this extra amount to the account, resulting in a negative balance.
How To Reduce the Likelihood of Negative Accounts Receivable on Balance Sheet
Mistakes do happen, and no solution will completely eliminate errors. Even so, there are steps you can take to significantly reduce the possibility of negative balances and other accounting errors.
Properly Train the Staff
Your A/R team should understand the principles of double-entry bookkeeping, how to reconcile accounts, and how to record payments correctly. Ensure they are also familiar with any other software or technology used for financial transactions. Regular training can prevent data entry errors and ensure that all staff members have the same understanding of accounting procedures. Remember that collections and accounting are separate skill sets, so ensure you assign the best persons to each role.
Financial statements often offer one of the best benchmarks for your records. The A/R team should reconcile payments as soon as they are received and record any discrepancies. Correctly allocate all payments to the proper account, and apply refunds or credits against open invoices. If your team identifies an overpayment, determine if it can be reconciled with another invoice or refunded to the customer.
Review Accounts Regularly
The finance team should review all accounts regularly, looking for discrepancies or unusual activity. It is essential to watch out for any payments that have not been allocated incorrectly or any late payments that the team has not yet addressed. The A/R team should also check for any misallocations between customers and suppliers. Regular reviews help to identify discrepancies quickly and take corrective action.
Enforce Financial Controls
Create effective controls for all financial transactions. This includes processes to segregate duties, using automated systems to detect suspicious activity, and having adequate oversight from management. Ensure your team understands the importance of following procedures correctly and investigating any suspected errors or fraud.
Ensure Close Collaboration
Actions taken by the sales team can directly impact the work of the A/R and accounting teams. These three functions of an organization must work closely together and ensure everyone is on the same page. For example, if the sales team extends an additional $5,000 in credit, it must inform the A/R and accounting teams so they know how to treat this extra credit.
Reduce Manual Tasks
Automating the accounts receivable process can reduce the risk of errors. Automation could take the form of online payment portals, invoice automation software, and other financial tools. Automation makes it easier to track payments, reconcile discrepancies, and monitor customer accounts more efficiently. By reducing manual tasks, you can reduce the chances of mistakes and improve transparency across your organization.
Best Practices for Using Technology To Reduce Accounting Errors
The right technology can bring impressive solutions to the table, but more than technology is needed to solve organizational problems. Managers must know what the company needs, identify appropriate solutions, and focus on seamless implementation.
Identify Potential Problems
Is achieving a normal balance for accounts receivable your only goal, or are there other A/R problems your company faces? The best solution tackles multiple issues, so make a complete list of the ones affecting your organization. Then, prioritize them in order of the ones that most significantly impact your business goals.
Research Potential Solutions
Once you have a list of problems, research solutions, and technologies to help. Consider the cost-effectiveness, level of integration, and ease of use when making your decisions. Choose a provider with a solid reputation for serving your business size or companies in your niche. Ideally, you choose an automated solution with these and other capabilities:
- Invoices the correct clients and include the right details, such as the accurate and current amount due
- Generates dunning notices to prompt timely payments and reduce issues with bad debt
- Tracks invoices and records payments to accurately project cash flow
- Creates a dashboard that automatically calculates and displays the KPIs you need
- Integrates with your accounting software to ensure accurate financial documents
Implement the Solutions
Implementing new processes or technology can sometimes be challenging. Before doing so, ensure you fully understand how each system works and test them thoroughly. Also, train your team to use the new system and encourage them to ask questions.
Once everything is up and running, monitor its performance closely. Your A/R team should be able to easily track payments, compare customer accounts more efficiently and provide accurate financial statements promptly. Keep an eye out for potential problems and adjustments needed to optimize processes.
Securely Back Up Your Financial Data
Your financial data is critical to your organization, so you must ensure it’s secure. Make sure that all of your data is backed up and stored off-site. Use a reliable cloud hosting provider with security protocols to protect sensitive information from unauthorized access.
How Gaviti’s Automated Accounts Receivable Solution Can Help
Negative A/R balances can significantly impact your financial statements and lead to costly mistakes. Technology is one of the most cost-effective solutions you can implement to resolve this problem. Many other software developers hypothesize about the effects of their software, but we have completed the case studies to prove it.
We found that use of our software boosted cash flow, reduced write-offs, and decreased receivables-at-risk. Some clients also saved thousands of dollars in payroll costs by using automation to take over manual tasks. Even better, our customers often saw these benefits in as little as six months.
What will Gaviti help your company achieve? Book a demo to find out.