Accounts Payable

Business, Legal & Accounting Glossary

Definition: Accounts Payable


Quick Summary of Accounts Payable


Amounts due for payment to suppliers of goods or services, also described as trade creditors.



What is the dictionary definition of Accounts Payable?

Dictionary Definition


Accounts payable is money owed by a business to its suppliers shown as a liability on a company’s balance sheet.

Accounts payable is money owed to suppliers who have sent your business goods, or supplied it with services, who you haven’t yet paid. These are also known as trade creditors.

Accounts payable are obligations due to trade creditors. Let’s say a company buys widgets for its inventory for $50. The inventory (or similarly named) account increases by $50 and the accounts payable account increases by $50. When the creditor is paid, the cash account decreases by $50 and accounts payable decreases by $50, eliminating the accounts payable for this obligation. Since a company continually incurs new debts, however, new accounts payable are continually created. The balance in the accounts payable account is listed at or near the top of the current (or short-term) liabilities section of the balance sheet, because it is among the most immediate cash obligations of the firm. All other factors held equal, investors should be suspicious of a substantial rise in accounts payable, as well as rising accounts payable vis-a-vis inventories. As a rule of thumb, a current ratio (current assets/current liabilities) of 1.5 or 2 to 1 indicates a company that has sufficient funds to pay its accounts payable on a timely basis.


Full Definition of Accounts Payable


Accounts payable is a file or account that contains money that a person or company owes to suppliers but hasn’t paid yet. When you receive an invoice you add it to the file, and then you remove it when you pay. Thus, the A/P is a form of credit that suppliers offer to their purchasers by allowing them to pay for a product or service after it has already been received.

In household, accounts payable are ordinarily bills from the electric company, telephone company, cable television or satellite dish service, newspaper subscription, and other such regular services. Householders usually track and pay on a monthly basis by hand using cheques or credit cards. In business, there is usually a much broader range of services in the A/P file, and accountants or bookkeepers usually use accounting software to track the flow of money into this liability account when they receive invoices and out of it when they make payments.

Commonly, a supplier will ship a product, issue an invoice, and collect payment later, which creates a cash conversion cycle, a period of time during which the supplier has already paid for raw materials but hasn’t been paid in return by the final customer. Certain companies, most famously Dell, have been able to profit handsomely by reversing the conversion cycle: they receive payment before they ship the product. Instead of granting credit to their customers, they receive it from them.

Reconciliations

One of the most difficult and time-consuming tasks can be reconciling company records of invoices and payments against vendors’ statements of outstanding invoices. If the two companies have applied invoices to different sets of credit memos and checks, and the situation has been going on for a long time, it can become very difficult to untangle. For instance, if a company cuts a check for invoice #3, and the vendor applies the check to invoices #1 and #2, the vendor may continue asking for payment for invoice #3. If this situation is multiplied over hundreds of invoices, it can take hours or days to resolve the discrepancies. Bank reconciliation is one of the major reconciliation done.

Expense Administration

Expense administration is usually closely related to accounts payable, and sometimes those functions are performed by the same employee. The expense administrator verifies employees’ expense reports, confirming that receipts exist to support airline, ground transportation, meals and entertainment, telephone, hotel, and other expenses. This documentation is necessary for tax purposes and to prevent reimbursement of inappropriate or erroneous expenses. Airline expenses are, perhaps, the most prone to fraud because of the high cost of air travel and the confusing nature of airline-related documentation, which can consist of an array of reservations, receipts, and actual tickets.

Petty cash is also usually paid out by AP personnel in the form of a check made out to an employee, who cashes the check at the bank and puts the cash in the petty cashbox.v

Internal Controls

A variety of checks against abuse are usually present to prevent embezzlement by Accounts Payable personnel. Separation of duties is a common control. Nearly all companies have a junior employee process and print the cheque and a senior employee review and sign the cheque. Often, the accounting software will limit each employee to performing only the functions assigned to them, so that there is no way anyone employee – even the controller – can singlehandedly make a payment.

Some companies also separate the functions of adding new vendors and entering vouchers. This makes it impossible for an employee to add himself as a vendor and then cut a cheque to himself without colluding with another employee.

In addition, most companies require a second signature on cheque whose amount exceeds a specified threshold.

Accounts payable personnel must watch for fraudulent invoices. In the absence of a purchase order system, the first line of defence is the approving manager. However, AP staff should become familiar with a few common problems, such as “Yellow Pages” ripoffs in which fraudulent operators offer to place an advertisement. The walking-fingers logo has never been trademarked, and there are many different Yellow Pages-style directories, most of which have a small distribution. According to an article in the Winter 2000 American Payroll Association’s Employer Practices, “Vendors may send documents that look like invoices but in small print, they state ‘this is not a bill’. These may be charges for directory listings or advertisements. Recently, some companies have begun sending what appears to be a rebate or refund check; in reality, it is a registration for services that are activated when the document is returned with a signature.”

In accounts payable, a simple mistake can cause a large overpayment. A common example involves duplicate invoices. An invoice may be temporarily misplaced or still in the approval status when the vendors calls to inquire into its payment status. After the AP staff member looks it up and finds it has not been paid, the vendor sends a duplicate invoice; meanwhile, the original invoice shows up and gets paid. Then the duplicate invoice arrives and inadvertently gets paid as well, perhaps under a slightly different invoice number. As Mary S. Scheiffer points out in Accounts Payable: A Guide to Running an Efficient Department, “Depending on the controls in place, the second payment may or may not be caught! The phenomenal growth of payment recovery firms gives testimony to the fact that this is a serious issue in corporate America today.”

Audits Of Accounts Payable

Auditors often focus on the existence of approved invoices, expense reports, and other supporting documentation to support checks that were cut. It is not uncommon for some of this documentation to be lost or misfiled by the time the audit rolls around. An auditor may decide to expand the sample size in such situations.

Auditors typically prepare an ageing structure of accounts payable for a better understanding of outstanding debts over certain periods (30, 60, 90 days, etc.) Such structures are helpful in the correct presentation of the balance sheet as of year-end.


Examples of Accounts Payable in a sentence


Long term accounts payable shall be accounted at actual amounts.
All the accounts payable balances were aged within 90 days.
The invoice states that this shipment will be billed through Accounts Payable and that the bill is due in thirty days.
Once the accounting department enters this bill into the system, it will show up in the accounts payable column until it is paid.


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Definition Sources


Definitions for Accounts Payable are sourced/syndicated and enhanced from:

  • A Dictionary of Economics (Oxford Quick Reference)
  • Oxford Dictionary Of Accounting
  • Oxford Dictionary Of Business & Management

This glossary post was last updated: 18th April, 2020 | 9 Views.