If a business is experiencing difficulty with payment of invoices, the owner may decide to request payment in advance to reduce the risks of not being paid for goods. This is another potential solution for reducing the number of debtor days.
What is a pro forma invoice?
This is an invoice that has been sent to a customer before goods are dispatched. The invoice will display a description of the goods, the quantity of goods that have been ordered and are due to be delivered, and the total price due.
When might a pro forma invoice be used?
The pro forma invoice may be used to provide a quotation to a customer, so that they know how much they are required to pay before their goods can be dispatched. The pro forma may also be used if a supplier doesn’t have sufficient time to carry out a credit check on a new customer and wants to guarantee payment before delivery of goods. As an alternative to losing a sale, the supplier will often issue a pro forma invoice, requesting payment in advance.
Accounting for VAT
When a pro forma invoice is issued, the VAT isn’t included in business records and a VAT invoice doesn’t have to be issued to the customer. Once payment has been received for the goods, a tax invoice will be issued to the customer and the sale will need to be recorded for VAT purposes. To avoid confusion, it may be easier to retain pro forma invoices separate from other records.
Benefits of using pro forma invoices
The main advantage of using pro forma invoices and receiving payment up front for goods, is that payment is received and there are no debts. The supplier doesn’t have to be concerned about invoices which are outstanding and the number of debtor days.
The use of pro forma invoices is also useful for new customers. A supplier may not have time to carry out sufficient credit checks and if an order exceeds the usual credit thresholds, may pose a potential risk of nonpayment. Removing uncertainty and reducing bad debts is a cost effective strategy for any business. There are further rules about the issuing of pro forma invoices which are relatively complex. For many companies, accountancy outsourcing is the most cost effective solution and ensures that all legislation is adhered to.
To get an idea of how this method could help your business, just enter your details in our cashflow improvement calculator.