Accounts Payable

What is accounts payable?

In case a business acquired from the suppliers goods or services, however cash for the acquisition based on the agreement with the supplier will be paid later on after the purchase, the purchaser acknowledges a liability to the supplier.

Such liability is called Accounts Payable

This is a debt of the business to its suppliers for certain acquisitions, like goods or services. Usually when the goods or services are acquired from the suppliers and the payment is postponed till the certain date, we call it “acquisition on credit”.

On the Balance Sheet this item is reflected on the Liabilities & Equity side under Liabilities caption. Usually they have their due date, i.e. the date till which the debt should be paid back. Sometimes suppliers provide certain discounts in case the debt is covered earlier before the due date.

As accounts payable represent debt to suppliers for goods acquired on credit or services acquired on credit, when a customer purchases goods from the supplier the following accounting entries are done:

Debit entry to Inventory if inventory was acquired. Alternatively another type of assets is debited depending on what assets were acquired (examples can be plant assets, office stationary or low value inventory)
Accounts payable are Credited, increasing business liability to the supplier of the items, which were purchased on credit

D Inventory (other asset)

C Accounts Payable

After the payment is done to the supplier, the following accounting entry is done:

D Accounts Payable

C Cash

Practical Examples

First question of course what accounting entries have to be made when accounting for the this item of balance sheet. Let assume that on October 10, 2009 the company HCC acquired goods from its supplier for $1500 on credit, payment for which will have to be made till November 10, 2009. To account for the acquisition we made the following entry:

D Inventory $1500
___C Accounts Payable $1500

When till November 10, 2009 the payment is made, the following entry will be recorded:

D Accounts Payable $1500
___C Cash $1500

Since this balance sheet item account is a liability account, all the increase in this account are reflected on the credit side, all the decrease – on the debit side. The account will have credit closing balance.

Discounts on early payments

In certain cases based on the agreement with the supplier, suppliers can provide discounts if payment is executed earlier. In such way suppliers encourage faster payment for the suppliers made. Such discounts are called Discounts for Early Payments

For example, if the supplier sets the following conditions for the payment:

2/10 and n/30

This means, that general payment terms for the supplies is 30 days, i.e. n/30

2 is discount % and 10 is discount period, i.e. if payment is done withing 10 days supplier will give 2% of discount on the value of payment.

For example, let’s assume that the purchase on credit amount was $1,000, with the following payment conditions: 2/8 n/30. The following accounting entry is done on the time of the purchase:

D Inventory $1,000
____C Accounts Payable $1,000

Such entry indicates the business has a liability of $1,000 to the supplier of inventory. If the payment is executed in 8 days, supplier will provide 2% discount on the amount of payment.

In case of earlier payment the following entry is done: