Accounts Payable: What It Is and How to Manage It Well

How accounts payable works

A supplier delivers goods or services and sends an invoice. You record the bill as a payable, then pay it by the due date.

Say you buy $3,000 of supplies on net-30 terms. You record $3,000 as an expense (or inventory) and as accounts payable. When you pay, cash goes down $3,000 and the payable goes away. Nothing hits your bank balance until payment.

Payable balances are a liability in the assets, liabilities and equity framework.

The basic AP process

Receive the invoice, verify it, approve it, record it, schedule payment and file the proof.

1. Receive the invoice and log it the same day.
2. Match it to a purchase order or delivery record to confirm you got what you were billed for.
3. Approve it. Even a one-person business should have a quick check.
4. Record it in your books with the correct category.
5. Pay it by the due date using a planned payment run.
6. File the invoice and payment confirmation.

Understanding payment terms

Terms like net 30 mean payment is due 30 days after the invoice date. Some suppliers offer a discount for paying early, such as 2/10 net 30.

The 2/10 net 30 example means a 2 percent discount if you pay within 10 days, otherwise the full amount in 30. Paying 20 days early to earn 2 percent is a strong return if cash allows. In this illustrative example, saving 2 percent for 20 days of earlier payment works out to a very high annualized return, so take early-pay discounts when you can fund them.

If cash is tight, ask suppliers for longer terms. Many agree if you pay reliably.

Common AP mistakes

Duplicate payments, paying late, losing invoices and failing to reconcile with vendor statements are the usual causes of AP problems.

• Paying the same invoice twice because it came by email and mail.
• Missing discounts or incurring late fees.
• Not recording bills until paid, which hides what you owe.
• Ignoring vendor statements that show differences.

A monthly reconciliation catches most of these. See bank reconciliation.

Accounts payable and cash flow

Stretching payables within agreed terms keeps cash in the business longer, but paying late damages supplier trust and can cost fees.

The goal is to collect from customers faster than you pay suppliers. If you pay in 30 days and customers pay you in 60, you carry a 30-day gap. Compare that gap with your cash on hand to see whether you can cover it. See cash flow management and negative cash flow.

Setting up controls so bills are paid correctly

Simple controls, such as approval limits and two sets of eyes on payments, prevent fraud and costly mistakes even in a small company.

As a business grows, bill payments can become a target for fraud, whether from fake vendor invoices or altered bank details. A few safeguards help: confirm any change of vendor bank information by calling a known number, require an approval for payments above a limit you set, and separate the person who enters bills from the person who releases payments when you can.

Review a monthly report of payments made, and compare supplier statements with your own records. These steps take little time and protect your cash.

When payables outrun your cash

If you are routinely paying vendors late because customers pay late, bridge the gap with a financing product rather than letting supplier relationships suffer.

A business line of credit lets you draw to pay bills and repay when customers pay you. Working capital is another option for one-off gaps. ROI Funder looks at 500+ FICO, 6+ months in business and $20,000+ monthly revenue, with an online application and soft credit pull.

Run payback math first. If an early-pay discount saves more than the funding costs, borrowing can make sense. If not, tighten collections instead.