What is accounts receivable (AR)?  Definition, uses, and examples

Accounts receivable (or AR) is the balance of money owed to a company for goods and services that have been delivered but not yet paid for.

It’s the money your customers currently owe for things you’ve already done. Each invoice is noted on your company’s balance sheets, and your customers are legally obligated to pay the debt.

Accounts receivable is used when a company lets customers buy goods or services on credit or pay after the fact. If you deliver a workshop and bill afterwards, that’s accounts receivable. If you ship an item and then send an invoice, that’s accounts receivable.

Paying Amazon today for a new office laptop which you expect to be delivered tomorrow is not accounts receivable. Nor is paying for your coffee before the barista prepares it, expecting it to be ready in three minutes time.

As far as Trade Credit Insurance (TCI) is concerned, accounts receivable is the amount you’ll be covered for. Whether it’s your whole turnover, key accounts, or just single buyers or transactions, TCI will protect you if your customers don’t pay.

Not all accounts receivables are the same. It is important to understand the difference between trade receivables and non-trade receivables, as they come from different types of business activity and are treated differently in financial reporting.

Trade receivables are amounts owed to your business directly from the sale of your core goods or services on credit terms. When a customer receives an invoice for a product you have delivered or a service you have completed, the outstanding amount becomes a trade receivable. These are the most common form of accounts receivable and form a central part of day-to-day cash flow management.

Non-trade receivables cover any other money owed to your business that does not arise from your primary trading activity. Some examples include:

• Tax refunds owed by HMRC
• Insurance claim reimbursements
• Loans made to employees or directors
• Interest receivable on business savings or investments
• Deposits paid to suppliers that are due to be returned

Both trade and non-trade receivables are recorded as current assets on the balance sheet, as both represent money the business expects to receive. However, they are usually listed separately to give a clearer picture of which income is generated by core trading activity, and which comes from other sources.

For most businesses, trade receivables make up most of their accounts receivable balance and managing them effectively is essential to maintaining healthy cash flow and reducing the risk of late or non-payment.

Yes, accounts receivable is an asset because it represents money your business is entitled to receive. It sits on the left-hand side of the balance sheet under current assets, recorded as a debit until payment is received. If it’s an asset, it can be insured, with the right TCI policy.

Accounts receivable is recorded as a debit in your accounting records. Understanding why requires a basic grasp of how double-entry bookkeeping works.

When you make a sale on credit, meaning you deliver goods or services before receiving payment, two entries are made simultaneously:

• Accounts receivable is debited, increasing the asset on your balance sheet to reflect the money you are owed
• Revenue is credited, recording the income earned from the sale
• When your customer pays the invoice, the entries reverse:
• Cash is debited, increasing your cash balance to reflect the payment received
• Accounts receivable is credited, reducing the outstanding balance to zero

This process ensures that every transaction is accurately recorded and that your balance sheet remains balanced at all times.

It is worth noting that accounts receivable sits on the left-hand side of the balance sheet under current assets, which is consistent with its treatment as a debit. It remains there until payment is received, at which point it converts into cash.

If a customer fails to pay and the debt is written off as bad debt, a separate adjustment is made, debiting a bad debt expense account and crediting accounts receivable to remove the irrecoverable amount from the balance sheet.

For businesses managing a large volume of invoices, keeping accurate debit and credit records for accounts receivable is essential for producing reliable financial statements and maintaining a clear picture of what is owed and when.

• Understanding accounts receivable could raise another question. Why would a business choose to use an accounts receivable process instead of charging upfront?
• There are three main benefits to taking payment in arrears:

1. Customer service: If customers don’t have to pay in advance, they are more likely to feel their interests are being looked after. They know they’ll get what they pay for because they’ve already had it before they pay. It removes that element of risk in the customer’s mind, especially if they’ve never worked with you before.
2. Planning and analysis: Accounts receivable allows you to know how much money is due to come into your business and makes it easier to measure your business’ liquidity.
3. Competitive advantage: Accounts receivable processes may differentiate you from competitors who demand upfront payment. In a competitive industry, this could provide a small but significant advantage.

Accounts payable vs accounts receivable are two sides of the same coin. AR is money owed to you by your customers; accounts payable AP is money you owe to your suppliers. Instead of being an asset, accounts payable is a current liability.

You can still look at accounts payable in the same way as accounts receivable when it comes to financial planning. You know how much you’re due to spend, and looking for trends and patterns, but unlike AR, AP isn’t something you can insure.

If you decide that accounts receivable is right for your business, you might wonder what to expect. Let’s look at accounts receivable in practice for a small business.

Here’s an example of accounts receivable management for a bespoke glass and glazing business:

• On April 1st, the company starts a job to install the glazing for a new commercial building project
• On April 3rd, the company finishes the job and sends an invoice to their customer with a 30-day payment term
• Between April 1 and the day the customer pays, the company has an account receivable worth the value of the invoice, which they record on the balance sheet
• On May 3rd, the customer pays
• The business removes the value of the invoice from accounts receivable and adds it to their cash total

The accounts receivable collection period, sometimes called the debtor days ratio or average collection period, measures how long it takes, on average, for a business to collect payment from its customers after a sale has been made on credit.

Accounts receivable days calculation

The formula for days in accounts receivable is straightforward:

Collection period = (Accounts receivable ÷ Annual credit sales) × 365

For example, if your business has £50,000 in outstanding accounts receivable and generates £500,000 in annual credit sales, your collection period is 36.5 days.

What is a typical accounts receivable collection period?

A typical collection period ranges from 30 to 60 days, though this varies considerably by industry and the payment terms a business offers. Construction and manufacturing businesses, for example, often operate on longer credit cycles than retail or professional services firms.

Generally:

• A shorter collection period indicates that customers are paying promptly, and cash flow is healthy
• A longer collection period suggests payments are being delayed, which can put pressure on working capital
• A collection period significantly longer than your stated payment terms is a warning sign that your credit control process may need attention

Why does the accounts receivable collection period matter?

It is important for two reasons:

1. Monitoring your collection period regularly helps you identify trends before they become problems. If the figure is creeping upward, it may indicate that certain customers are becoming a credit risk, that your invoicing process has gaps, or that your payment terms need tightening.
2. For businesses exposed to late or non-payment, trade credit insurance can provide an additional layer of protection, covering your accounts receivable if a customer becomes insolvent or fails to pay.

An accounts receivable aging schedule is a management tool that organises your outstanding invoices by how long they have been unpaid. Rather than viewing your accounts receivable as a single total, an aging schedule breaks it down into time brackets, giving you a clear picture of which invoices are current, which are overdue, and which may be at risk of becoming bad debt.
 

How an accounts receivable aging schedule works

Invoices are grouped into time periods based on how many days have passed since the payment due date. A typical aging schedule looks like this:

Why is an accounts receivable aging schedule useful?

An aging schedule helps businesses:

• Prioritise collections, focusing their credit control efforts on the most overdue accounts first
• Identify problem customers and spot patterns of late payment before they escalate
• Assess bad debt risk. Invoices in the 61–90 day and 90+ day brackets are significantly more likely to become irrecoverable
• Inform their credit decisions. Using the schedule to decide whether to extend further credit to a customer or tighten their payment terms

Most businesses review their aging schedule monthly, though businesses with high invoice volumes or tight cash flow may benefit from weekly reviews. The more regularly it is reviewed, the earlier potential bad debts can be identified and acted upon.

The accounts receivable turnover ratio measures how efficiently a business collects payment from its customers over a given period, showing how many times a business converts its outstanding receivables into cash within a year.

Monitoring your turnover ratio alongside your aging schedule gives you a comprehensive view of your receivables position and helps you act before cash flow problems develop.

For a full explanation of how to calculate it, what a good ratio looks like, and how to improve yours, see our complete guide: What is the accounts receivable turnover ratio?

The steps available to you include sending payment reminders, issuing formal late payment notices, restricting further credit, escalating to debt recovery, and ultimately writing the debt off as bad debt if it proves irrecoverable.

For full details of each step, see our dedicated guides:

• A guide to overdue invoices
• How business debt collection works
• Late payments: how to collect and avoid them
• Bad debt protection: how insurance can help

Rather than waiting until a customer fails to pay, trade credit insurance allows you to protect your accounts receivable proactively. It covers your business if a customer becomes insolvent or defaults on payment, ensuring that a single bad debt does not threaten the financial stability of your business.

Even the most diligent credit control process cannot fully eliminate the risk of late payment or insolvency, and a single significant bad debt written off from your accounts receivable can have a serious impact on your cash flow and financial stability.

And that is where our specialist team at Allianz Trade comes in. As a global leader in trade credit insurance, we protect businesses like yours against the risk of non-payment, so that an unpaid invoice does not become an unmanageable problem. It doesn’t matter if a customer becomes insolvent, defaults, or simply fails to pay, our trade credit insurance covers the outstanding balance and keeps your business on solid ground.

Aside from financial protection, we work with you proactively, monitoring the creditworthiness and financial stability of your customers so you can spot warning signs early, make informed credit decisions, and trade with confidence.

Find out how much trade credit insurance could cost your business and get a free quote from Allianz Trade today.