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This week we’re talking about debtors and creditors, what those terms mean, and why they might appear in your business’ bookkeeping.
What are debtors and creditors?
If you owe money to a person or business for goods or services that they have provided, then they are a creditor. Looking at this from the other side, a person who owes money is classed as a debtor.
Why should debtors be shown on a balance sheet?
A customer invoice is counted as income at the point that it’s raised, even before it’s been paid. Your debtors, also known as receivables, represent those unpaid customer invoices, but they’re still considered to be income because the sale has been made.
But! It’s important that a business also looks at debtors as an aged debtor report which shows how much money is owed, and since when.
Old debts that are unlikely to be recovered become ‘bad debt’, and may need to be written off. A business might have a very healthy looking income, but there can be problems making financial decisions based on that income if it’s not actually collected.
Why should your business keep track of its creditors?
Recording creditors (also known as payables) in your bookkeeping will help your business keep track of how much money is owed against any income.
In accounting terms, creditors are what’s known as a liability – an amount that you’re liable for and therefore obliged to pay as the result of a previous agreement.
A creditor might be reported on the company’s balance sheet as a current liability (due for payment within a year), or a long term liability (due after a year or more). This can be useful for financial planning, so that income can be put aside for future liabilities.
What do creditors and debtors mean for cashflow?
Cashflow is, quite literally, the flow of cash through your business. Ideally a business always has the funds available to pay its debts, staff and suppliers on time. Things get awkward pretty quickly if this isn’t the case!
It means that keeping track of your debtors is essential in making sure you get paid the right amount, in the correct time. Likewise, getting this money into the business will help you pay your own creditors within their payment terms.