Unapplied payments and customer credits: how to fix them

What an unapplied payment is

When a customer pays, the payment does two things in your books: it brings money in, and it closes one or more invoices. An unapplied payment did the first but not the second. The money is recorded, the customer's total balance went down, but no invoice was marked paid.

A customer credit is the same idea from the other direction: a credit memo for a return, a discount or a billing mistake that reduces what the customer owes, but has not been applied to an invoice yet.

Both produce the same confusing picture. The customer's total balance may be right, or even zero, but your receivables report shows an overdue invoice in one column and a negative amount in another. Send that customer a reminder and they will rightly tell you they paid.

Pine Street Cafe owes nothing. Their $860 payment simply was never matched to invoice 1043.

How they happen

• Payment recorded without picking the invoice. The amount was entered against the customer, but no invoice was ticked.
• Payment recorded as a deposit or sales receipt. The money went straight to income, so the invoice stays open and income is counted twice. This one looks different (no negative amount) but is worse, because profit is overstated.
• Overpayment. The customer paid $1,000 on a $950 invoice. The extra $50 is a credit until you use it or refund it.
• Duplicate payment. The customer paid the same invoice twice, or you entered one payment twice. Check the bank before deciding which.
• Paid before the invoice existed. A deposit or prepayment arrived before you invoiced. When the invoice is made, the earlier payment has to be applied to it.
• Credit memo never applied. You issued a credit for a return and the customer deducted it from their next payment, but the credit memo was not applied to anything, so the short payment leaves a small balance open.
• Paid at the wrong level. A customer with several projects sends one cheque (check) for all of them, and it is recorded against the customer while the invoices sit under the projects.

How to find them

1. Run the A/R aging report and look for negatives. Every negative amount is a credit waiting to be used. Customers with a negative and an open invoice side by side are the first to fix (see the A/R aging report explained).
2. Look at the customer's history, payments next to invoices. The pattern is usually obvious once both are on one screen.
3. Read the remittance advice. Customers who pay several invoices at once usually send a list of what they paid and what they deducted. Keep it with the payment.
4. Compare with the bank before calling anything a duplicate. If the money arrived twice, it is a real overpayment. If it arrived once, the second entry is yours to void.

Fixing each kind

Apply credits to the oldest open invoice unless the customer says otherwise. It keeps the aging report honest and matches how most customers think about their account.

Old credits you cannot use

Sometimes a customer has gone away and a credit is left behind. It is tempting to move it to income. Be careful: an overpayment is money that belongs to the customer. In many US states, a customer credit balance left untouched for a period (often a few years) can count as unclaimed property that must be reported and paid over to the state, after an attempt to contact the customer. The periods and exemptions vary by state, and some exempt credits between businesses. In Canada, check whether your province has an unclaimed property program. Ask your accountant before writing old credits off to income.

Very small leftovers, such as a few cents of rounding on a foreign-currency payment, are a different matter and are usually written off to a small-balance or bank-charges account by agreement with your accountant.

Keeping it from happening

• Always receive a payment against an invoice, never as a plain deposit, when there is an open invoice.
• When a payment does not match an invoice exactly, stop and find out why before saving it.
• Apply credit memos the day you issue them, or note on the memo which invoice it belongs to.
• Check the A/R aging for negatives as part of your month-end close.
• For money received before the work, use a proper deposit or retainer process: see customer deposits and retainers.

In AcboBooks, Receive Payment lists the customer's open invoices and its projects' invoices, oldest first, and Auto Apply spreads the amount over them. If part of a payment is not applied, it asks before saving and keeps the rest as a credit on the customer. When a customer has unused credits (credit memos or unapplied payments), Receive Payment shows them with an "Apply credits to open invoices" button that applies them oldest first. The Credit Memos screen has Apply and Refund buttons for each credit memo. The A/R aging report shows unused credits as negative amounts, and Books Checkup lists customers and vendors with an unused credit and customer payments that may have been entered twice.

Frequently asked questions