What Is an Account Payable?
Accounts payable are informal debts or claims arising when goods or services are provided without payment. In other words, accounts payable occur when a company purchases goods or services on credit. A company may have accounts payable for rent, insurance, utilities and taxes. A company's accounts payable procedure has a significant impact on cash flow, which explains why it is important to keep an accurate record of what the company owes.
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Significance
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Accounts payable exist as a liability account, which indicates the debts and obligations of an economic entity. Additionally, accounts payable are treated as a current asset, which means a company has to pay the debt within a year or less. Many accounts payable become due within 30 days. As a liability account, a credit to accounts payable increases the amount a company owes while a debit to accounts payable decreases the amount of money a company owes. When a company receives an invoice from a creditor, it is important to record the amount of the debt, the name of the creditor and the date when the invoice was received. This allows a company to monitor who and how much is owed to creditors.
Journal Entries
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When a company receives goods and services on credit, the transaction must be journalized as part of the recording process. For example, assume a company receives $500 in automotive parts on credit. The journal entry will indicate the date of the transaction and name of the supplier, vendor or creditor. The company will debit automotive supplies for $500 and credit accounts payable for the same amount. When the company pays the obligation, the journal entry will include the name of the supplier and the date when payment was made. The journal entry will debit accounts payable for $500, which takes the payable off the company's books, and credit cash for the same amount. This entry indicates the company paid cash to satisfy the debt.
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Consequences
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Failure to properly track and monitor accounts payable may spell doom for a business, since it will inevitably incur cash flow problems. When a company does not pay its obligations in a timely fashion, interest penalties may occur and the company may not capitalize on discounts for remitting an early payment. This can become disastrous for a business, particularly if many bills are due at the same time, as explained by the Reference for Business website.
Considerations
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A company should never allow a debt or obligation to go more than 45 to 60 days without payment, according to the Reference for Business website. After 60 days, a company's credit rating may suffer, which makes it more difficult to secure financing for the business. Also, failure to pay on time makes it less likely that other vendors and suppliers will extend credit to the business. Companies that encounter cash-flow problems should communicate these issues with their creditors so that special arrangements can be worked out. Some creditors may accept partial payments or waive some of the interest on outstanding bills.
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