Invoices and Credit Notes Explained

If you run or manage a small business, you’ve probably heard of invoices as nearly every business will have to issue and/or pay an invoice at some point. However, credit notes may be less familiar as they are less common. Still, credit notes are important for businesses big and small, and if you’re not familiar with them, you need to get up to speed. Likewise, while many people are vaguely familiar with invoices, there are some important details worth discussing.

Payments can be a pain for businesses to manage. With a credit note, you’re basically modifying an invoice by giving credit or a refund back to the customer. Both invoices and credit notes are essential for businesses.

As such, it’s worth going over invoices and how they work first before jumping into credit notes. Let’s dig in.

The Invoice, Defined

An invoice is simply a “bill”. Almost certainly, you’ve paid bills before, say for your phone or electricity bill. The bill tells you how much you owe for the products or services rendered. While you could simply call an invoice a bill and everyone would know what you’re talking about,  “invoice” is the most commonly used term for many businesses.

So, an invoice is simply a statement that a seller sends to a buyer that shows them how much they owe, and typically, what they received. Often, business addresses, payment methods, and other vital details are also displayed. A description of the products sold or services rendered is also usually included. You can check out the invoice below to get a better feel for what they look like and what they include.

An invoice will normally include:

  • Date Issued
  • Payment Due Date
  • Seller name/address/phone number
  • Shipping address (for physical products)
  • Buyer name/address
  • Contact names and details
  • A detailed description of the products or services delivered
  • Payment terms and methods

While the terms “bill” and “invoice” can be used interchangeably, invoices are often more detailed than a simple receipt or bill. Usually, an invoice will feature a complete list of all products and services rendered, including quantities and the amount charged for each individual item. Sometimes, a simple bill will include only the price and not many details.

The additional complexity of an invoice helps explain why the term became common. Businesses need to closely track spending and revenues. Simple receipts might not include enough information. 

In the past, invoices were often printed up and mailed to the business or dropped off in person. Increasingly, businesses are using business process software to streamline the invoicing process. These days, many invoices are handled electronically, with the sender sending the invoice through an online payment system or email, and the buyer paying it online. No receipts, checks, or physical cash needs to change hands these days.

While invoicing has become much easier in recent years, mistakes can still happen and sometimes the invoice needs to be amended. That’s where a credit note comes in.

Credit Notes Explained

Let’s say you’re shipping a crate of 100 gizmos to a client. You pack up the gizmos, put them in a box, and include an invoice. You also send an invoice electronically for the customer’s convenience. Let’s assume that the total cost for these gizmos is $10,000, which is clearly displayed on the invoice along with payment terms. Then, you ship the products to your customer.

However, upon receiving your gizmos, the client finds that 10 of them are non-functioning and were damaged during shipping. Per your agreement, you assume responsibility for the broken gizmos. Given the situation, it wouldn’t make sense for the client to pay you $10,000 for the gizmos. If you subtract the broken gizmos, the bill would only be $9,000.

In this case, however, the customer has already paid the full $10,000 for the gizmos. As a seller, you can send the customer a credit note, promising to either refund them for the broken gizmos or to offer future credit for future purchases. 

Basically, an invoice tells you how much a buyer owes a seller. A credit note tells you how much the seller owes the buyer. Credit notes will also usually contain other information, such as contact details, the exact list of products or services refunded, and the like. In practice, a credit note looks similar to an invoice.

[CREDIT NOTE TEMPLATE]

Unfortunately, mishaps like the above happen all the time. Products are damaged during shipping or perhaps they simply never functioned. The seller accidentally bills the buyer too much. Products get lost during the shipping process. Many things can happen. Credit notes make it easy to rectify the situation. 

When Should You Issue a Credit Note?

It might be tempting to skip a credit note and simply give a refund. Who wants to deal with more paperwork? However, for businesses, this is a bad idea. You want to closely track when you’re issuing credits or refunds as it’ll help you better understand your finances. 

Both credit notes and invoices are also vital for filing your taxes as well and may save you from headaches come tax season.  If you don’t have proof that you made a refund and documentation backing it up and explaining it, the government might try to tax you for a sale you ultimately refunded.

Without credit notes, the IRS might try to make you pay taxes on sales you never made.

From: https://commons.wikimedia.org/wiki/File:Blue-Eagle%2BIRS.png

Likewise, by monitoring credit notes, you may uncover a problem. If products are frequently arriving damaged, that means the products are likely being packed improperly or your shipper is mishandling them. Either way, you need to address the issue. By putting together detailed credit notes, you make it easier to uncover trends. 

Issuing Credit Notes and Invoices With PayKickstart

Unlike some shopping carts, PayKickstart makes it easy to handle both credit notes and invoices. You can find a full tutorial here. We know many of our clients are businesses and so simple receipts are not enough. If you operate a SaaS or are conducting B2B sales, invoices are often more appropriate than simple receipts. 

When you issue a refund from an invoice, PayKickstart will automatically create a new credit note. As mentioned above, this will make it easier for you to track refunds and credits. So if your shopping cart doesn’t make invoicing and issuing credit notes easy, you need a new shopping cart!