Understanding the difference between an Invoice and a Credit Memo

Understanding the difference between an Invoice and a Credit Memo

What’s the difference between an invoice and a credit memo? A lot, actually. An invoice and a credit memo are two different ways to bill customers, and they serve two very different purposes in the business process of sales and collections. For example, you can send out invoices on behalf of your clients when they need to pay you money, but they may not be able to pay immediately. If that’s the case, it’s better to issue them with a credit memo for future payment.

What is an Invoice?

An invoice is a document that shows your client, business partner or supplier what you have provided them with in terms of goods or services. It also lists their payment due date. An accounts payable department is responsible for making sure invoices are paid by their due date. Invoices include a variety of information from when it was sent, who it was sent to, what product or service it is related to, when payment needs to be made by, where payment needs to be made to etc. There are an unlimited number of variables within each invoice.

What is a Credit Memo?

A credit memo is effectively a record of overpayments. If you’ve requested payment for goods or services, but your customer sends more than your original invoice requested, you can issue them a credit memo. The credit memo amount will appear as a line item on their next bill, so it doesn’t look like additional funds were added to their account. Credit memos are also called refunds, rebates or reversals depending on your accounting system and industry. If your business practices subscription billing (monthly invoicing), then a credit memo should be issued for anything that has been paid ahead of schedule. Subscription billing is a valuable way to encourage customers to maintain long-term relationships with your business, while offsetting short-term sales fluctuations. It allows businesses with seasonal sales fluctuations—like real estate brokers or roofing companies—to reliably predict annual revenue from year-to-year without taking on unnecessary risk during peak times.

Difference between Invoice and Credit Memo

While there are many differences between invoices and credit memos, one of the major differences is that an invoice represents monies owed by clients while credit memos represent credits due to clients. While invoices can be raised manually (e.g., in case of professional services), they can also be raised automatically using pre-configured settings in Subscription Billing module. Credit memos, on the other hand, need to be raised manually. Invoices can also be used as supporting documents for claims filed under warranty policies. Depending upon how it has been configured, Subscription Billing module may raise tax invoices along with regular invoices or may raise its own tax invoice separately. These invoices have different prefixes. You can find detailed information about invoice types here. In addition to invoice/credit memo processes, you can use purchase orders in accounting module to keep track of these transactions. Further details about purchase orders will be covered in a future post. The above-mentioned examples highlight some of major differences between invoices and credit memos. There are certain smaller differences which we do not discuss here but it’s important for users to understand such differences to be able to adopt best practices when working with Subscription Billing module.

CONCLUSION While both invoices and credit memos carry monetary value, their purposes vary greatly. While invoices are essentially formalized bills, they’re often used as legal documentation to show that your business owes another. Credit memos, on the other hand, can be issued for any reason – you could even use them as personal tax deductions – so it’s up to you to clarify their usage with your company’s accounting department.

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