USA Credit Memos

[azraeana]

Hi! First off I'm not an accountant - I'm a programmer for my company and we do not have an accountant. We currently have someone that keeps tracks of things in QuickBooks but she doesn't know any true accounting and I did a lot of T charting and general ledger analysis at my last company because we fed transactions into it from our own developed software, but I'm still not an accountant lol.

I'm trying to understand how credit memos should work. Let's say we have this scenario:

Invoice in 2012 is never paid. This invoice would show up on a P&L report for 2012 correct? It wouldn't show up in today's report even though it is outstanding right?

If we apply a credit memo to that invoice today and leave the date as today - that appears to lower income for the month in the P&L. Is that how it should work? We use SalesLogix and there's a lot of questions flying around that no one can answer because the accounting reports show an income that is lower than what SalesLogix is reporting because of the credit memo. So they turn to me for clarification and I just don't know because to me logically the books should show for the current month what income we actually brought in but I know that accounting can be different.

How should this be handled normally? Is this just how it should function? Should income in the current month always be down some if we write-off bad debt?

Thank you for any light you can shed.

 

[Fidget]

A credit memo basically cancels an invoice (or part thereof) for whatever reason, but they are not raised to write off bad debt.

So, if the original invoice should never have been raised, or for whatever reason was supposed to have been cancelled at the time, but wasn't, then the effect of raising the credit memo today would indeed have the effect of lowering the income of today, just as the income was overstated back at the time. It's basically just correction of an error relating to an earlier period, and, unless the value is material, it is correct to just make the correction in today's accounts.

Bad debts written off are not the same thing - they go through the P&L as an expense to the company due to the debt not being collectable. Credit memos are not raised on account of them.

So you need to decide whether it was an invoice needing cancelled, or bad debt written off.

 

[azraeana]

A credit memo basically cancels an invoice (or part thereof) for whatever reason, but they are not raised to write off bad debt.

So, if the original invoice should never have been raised, or for whatever reason was supposed to have been cancelled at the time, but wasn't, then the effect of raising the credit memo today would indeed have the effect of lowering the income of today, just as the income was overstated back at the time. It's basically just correction of an error relating to an earlier period, and, unless the value is material, it is correct to just make the correction in today's accounts.

Bad debts written off are not the same thing - they go through the P&L as an expense to the company due to the debt not being collectable. Credit memos are not raised on account of them.

So you need to decide whether it was an invoice needing cancelled, or bad debt written off.

Thanks for the reply. It would be a bad debt because we did work and were never paid but they are writing it off (no physical inventory, just service based work).

We currently have an employee that creates a credit memo whenever this happens and that lowers the income in the P&L. So people have been asking why does the bank have (for example) 100,000 for the month and the sales system have 100,000 for the month but the income line on the P&L shows 90,000 (where a 10,000 credit memo hit).

So if you don't do a credit memo then what do you do with it in QuickBooks to flag it as closed/written off/bad debt?

Thanks again

 

[Fidget]

I'm not familiar with quick books, so I've no idea how you do it. But the rationale behind it is this:

When you sell goods/services on credit, it is highly likely that not all Debtors will pay you. So, to reflect this in accounts, we create what is known as a Provision for Bad Debt to sit on the balance sheet for such times as you know which debts need to be written off. To create the provision, a matter of judgement is required, so you might say that 5% of your total debtors are not going to pay. So, whatever the value that 5% is, creates the provision by:

Dr: PL - Provision for Bad Debts - 5% of total debtors, $1000
Cr: B/S - Provision for Bad Debt A/c - 5% of total debtors, $1000

To write off, say $200 of that, you would credit the Debtor account (on the balance sheet which is where the original invoice would have been posted to), and debit the Provision for Bad debts account (also on the balance sheet).

The write-off takes place only on the balance sheet because by making the original provision, a cost has been applied to the P&L.

If no provision for bad debts existed, then the amount written off would've been Debited to the P&L instead.