Here we will be covering the topic: When Is An Accounts Receivable Created and also other questions related to the basics of the accounting for Accounts Receivable.
For major part of entities being involved in business either selling goods, or providing services, significant part of revenues comes from sales on credit. As credit is granted, the accounting records must include Accounts Receivable.
So how can we understand Sales On Credit and Accounts Receivable? In the picture below you can see the process of selling goods or providing services on credit.
This process describing when is an accounts receivable created, means that the business makes a sale, transferring the ownership title to the goods to the customer or providing the services in full, however the customer is allowed to postpone the payment for such acquisition.
From the seller’s point of view revenues must be recognized in the accounting at the moment the sale was actually made (this is done according to the main Revenue Recognition Principle). Here we will have Sales On Credit, since revenue will be recognized despite the fact that cash for the sale will be collected later on.
Following Double Entry accounting principle, while recording sales revenue on credit a debt from the customer to the seller for the goods or services supplied must be recorded. This debt is called Accounts Receivable and is reflected onthe Assets side of balance sheet.
So answering the question when is an accounts receivable created, I can summarize, that it is caused by the sale of goods or provision of services on credit without receiving cash at the moment of sale. The following accounting entries are done in the books of business, when recording Accounts Receivable, i.e. we have to debit Accounts Receivable account and credit Revenues account:
Accounts Receivable indicate the right of the business to receive cash from the customers in the future, therefore they are attributed to the Assets of the business indicating future possible inflows of cash. Of course some customers might fail paying their debts, therefore there might be cases when we will have to reduce the value of Accounts Receivable in the books of the entity. We will be covering such cases in the next posts.