Receiving and accounting for advance payments from a client is a task that requires careful attention to the way entries are made in a company's accounting records.
The process usually involves qualifying the type of payment received, and then completing the posts to the general ledger so that once the goods and services related to the payment are invoiced, that payment can be applied properly. While the exact process will vary slightly based on how closely the business makes use of generally accepted accounting principles, a few specific steps are highly likely to be used when posting those advance payments.
1
Qualify the type of advance payment. This depends on whether or not the goods or services have been delivered. The advance payment is classed as earned revenue if the payment is for goods and services that have been partially or completely delivered to the customer, but have not yet been invoiced.[1]
- The advanced payment is classed as unearned revenue should the payment be for goods and services that will be delivered and invoiced at a future date, since the seller has not yet provided any benefits to the buyer.[2]
2
Create a special account in the company accounting journal. Label it "Customer Deposits" or "Prepaid Sales." You might think a customer deposit would be straight income, but since you "owe" the customer something, it's actually a liability to the business.[3]
3
Relate the advance payment to a customer account. If this is new client, create a customer account in the accounting records. The detail for the earned or unearned revenue should be posted in that account as well, pending further actions such as filling the order and creating the invoice for that order.
- For example, you would create an account called "Smith Metal Technology."
1
Record the amount of the deposit from the customer. In your accounting journal, debit the Cash account and credit the Customer Deposits account in the same amount. Debits increase expenses, assets such as cash or equipment, and dividend accounts. Credits decrease these accounts and increase liability and equity accounts.
- For example, when Smith Metal Technology makes a $1,000 deposit, debit Cash for $1,000 and credit Customer Deposits for $1,000.
2
When the work is completed, send an invoice to the customer. Note on the invoice the amount of the deposit previously paid and subtract it from the total amount owed. Revenue can be recognized when the work has been completed and the customer has been invoiced, not when the money is received.
- For example, if the total invoice is for $5,000, deduct the $1,000 deposit to total $4,000 owed.
3
Record the transaction in your accounting journal. Revenues are credited $5,000, Accounts Receivable is debited for $4,000, and Customer Deposits are debited for $1,000. This is how you record the revenue to the company - by converting a liability (work owed) into an asset (accounts receivable).[4][5]
