Most small businesses allow their customers to buy on credit. This means products or services are delivered immediately, an invoice is sent, and payment is collected later. To keep track of these unpaid customer balances, companies record them in a category called Accounts Receivable (AR).
In this guide, we’ll explain what accounts receivable is, why it matters, how it differs from accounts payable, and practical tips to manage AR effectively so you can get paid faster.
What Is Accounts Receivable?
Accounts receivable represents the money owed to your business by customers who purchased goods or services on credit. Payments are usually collected within a few weeks. Since AR will eventually turn into cash, it is listed as an asset on your company’s balance sheet.
Businesses that use the accrual accounting method record revenue at the same time they record accounts receivable, even if payment hasn’t been received yet.
Why Is Accounts Receivable Important?
Having a strong customer base is valuable—but if clients delay payments, your business may struggle with cash flow problems. In fact, late payments are one of the leading causes of liquidity challenges for small businesses.
By properly managing your AR, you can:
- Maintain steady cash flow
- Reduce the risk of unpaid invoices
- Quickly spot customers who consistently pay late
One of the most useful tools is the accounts receivable turnover ratio, which shows how quickly you collect payments.
Where to Find Accounts Receivable on Financial Statements
You’ll see your AR balance under “current assets” on your balance sheet or general ledger.
- General Ledger: Shows the total AR balance
- Subsidiary Ledger: Breaks down AR by individual customers, making it easier to track overdue payments
Does Accounts Receivable Count as Revenue?
Not directly. AR is recorded as an asset, not revenue. However, under accrual accounting, revenue is recorded at the same time as the receivable.
Example:
You send Keith’s Furniture Inc. a $500 invoice for logo design. At that moment, you record:
| Account | Debit | Credit |
|---|---|---|
| Accounts Receivable – Keith’s Furniture Inc. | $500 | – |
| Revenue | – | $500 |
Under cash-basis accounting, this transaction wouldn’t appear until payment is received.
What Is an Accounts Receivable Aging Schedule?
When you have many customers, it can be difficult to monitor who owes what. An aging schedule categorizes outstanding invoices by how long they’ve been overdue (e.g., 1–30 days, 30–60 days, 60+ days).
This helps you:
- Spot customers with chronic late payments
- Prioritize follow-ups
- Prevent overdue balances from turning into bad debts
Accounts Receivable vs. Accounts Payable
These two terms are often confused but represent opposite sides of a transaction:
- Accounts Receivable (AR): Money owed to your business by customers (asset).
- Accounts Payable (AP): Money your business owes to vendors or suppliers (liability).
Example: If you invoice Keith’s Furniture $500, that’s your AR. On Keith’s books, it’s recorded as AP.
Allowance for Uncollectible Accounts
Not every customer will pay. To prevent overstating your assets, businesses estimate potential bad debts and create an allowance for doubtful accounts.
Example:
If annual sales are $120,000 and you expect 5% won’t be collected, you record $6,000 as bad debt expense:
| Account | Debit | Credit |
|---|---|---|
| Bad Debt Expense | $6,000 | – |
| Allowance for Uncollectible Accounts | – | $6,000 |
Accounts Receivable Turnover Ratio
This ratio shows how efficiently you collect payments.
Formula:
Accounts Receivable Turnover = Net Sales ÷ Average Accounts Receivable
Example:
- Beginning AR: $2,500
- Ending AR: $1,500
- Net Sales: $60,000
Average AR = ($2,500 + $1,500) ÷ 2 = $2,000
Turnover Ratio = $60,000 ÷ $2,000 = 30
This means customers pay on average 30 times a year—or roughly every 1.7 weeks.
How to Get Paid Faster
Late payments can disrupt cash flow. Here are strategies to encourage timely collections:
- Set Clear Credit Policies – Define terms, enforce deadlines, and charge late fees if needed.
- Offer Multiple Payment Options – Accept credit cards, online transfers, and digital wallets.
- Provide Early-Payment Discounts – Example: 2% discount for payments made within 15 days.
- Send Reminders – Use automated emails and phone calls to follow up.
- Cut Off Persistent Late Payers – Stop extending credit until overdue balances are cleared.
- Convert to Notes Receivable – For trusted clients, turn overdue invoices into long-term loans with interest.
- Use Collection Agencies (Last Resort) – Costly, but useful for large debts you can’t recover otherwise.
When to Write Off Bad Debt
If it’s clear an invoice will never be paid, you must write it off. This is recorded by reducing both AR and the allowance account.
Even if a debt is written off, if the customer eventually pays, you can reinstate the receivable and record the cash payment.
Accounts Receivable under GAAP and IFRS
- GAAP (US): AR must equal net realizable value (expected collectible amount).
- IFRS (International): AR includes all amounts expected to be collected within 12 months (current assets).
IRS Rules on Bad Debt
The IRS allows businesses to deduct certain bad debts, such as:
- Credit sales to customers
- Business-related loans
- Unpaid supplier advances
These deductions reduce your taxable income.
Key Takeaway
Accounts receivable represents future cash flow. Managing it effectively helps your business stay liquid, reduce bad debts, and build stronger financial stability.
