When a business sells goods to a customer they might also draw up a bill of exchange on the customer. By accepting the bill of exchange the customer effectively agrees to pay the amount due on a specified date. The purpose of the bill of exchange is to provide proof of debt in the form of a transferable document which the business can either hold, discount, or negotiate. This process is more fully explained in our bills of exchange tutorial.
The amounts owed to the business by the customer are assets referred to as bills receivable or more fully bills of exchange receivable.
Bills Receivable on the Balance Sheet
Short term bills receivable are due within one year from the balance sheet date and classified under current assets in the balance sheet, long term bills receivable have terms exceeding one year and are classified as long term assets in the balance sheet.
Bill Receivable Accounting Entries
There are three stages in the bills receivable accounting process.
- The business sells goods to a customer and records the amount owed as an accounts receivable asset in the normal manner.
- The customer accepts the bill of exchange and the business transfers the asset to a bills receivable account.
- The customer makes the payment to the business when the bill is presented on the maturity date.
Suppose for example a business sells goods to a customer and the customer accepts a bill of exchange for 7,000 due in 3 months.
Record the Amount due from the Customer
The first journal is to record the amount due from the customer as an accounts receivable in the usual manner.
The debit records the amount due from the customer as an accounts receivable. The credit is to revenue representing the goods sold to the customer.
Record the Acceptance of the Bill of Exchange by the Customer
The second journal entry for bills receivable is to record the acceptance of the bill of exchange by the customer and record the amount due as a bills receivable.
The debit transfers the amount due from the accounts receivable account to the bills receivable account on acceptance of the bill of exchange by the customer. The credit is to clear the customer’s accounts receivable account.
Receive Payment of the Bills Receivable
Finally, at the end of the 3 month term, assuming the bill is held by the business until maturity, the bill receivable is paid by the customer, and the following journal completes the transaction.
The debit reflects the receipt of cash, and the credit reflects the bills receivable entry to clear the amount due by the customer on settlement.
Bills Receivable Dishonored
When a bill of exchange is not settled on the due date it is said to be dishonored. At this point the process is reversed and the amount owed by the customer is transferred back to the accounts receivable account.
As the customer caused the non-payment of the bill of exchange it is responsible from any noting charges and fees paid by the business.
The journal entry to post the transfer of the amount owed by the customer back to their accounts receivable account and to reflect the noting charges is as follows.
The amount due under the bill of exchange (7,000) is transferred from the bills receivable account to the customers accounts receivable. The noting charges and fees (100) are paid by the business, but are recoverable from the customer and are added to the accounts receivable balance.
The above entries assume that the business (drawer) holds the bill until maturity and is the payee when the bill is presented to the customer. There are however alternatives, the business might have discounted the bill of exchange to a bank or negotiated it to a third party. This is more fully explained in our bills of exchange tutorial.
Discounted Bills Receivable
If the business discounts the bill of exchange with a bank before maturity it receives the amount due under the bill less a discount from the bank and ceases to be the payee. When the bill matures, the bank presents the bill to the customer and receives payment.
Suppose the bills receivable in the above example of 7,000 are discounted with a bank at a cost of 250. The journal entry to record the discounting process are as follows.
In this instance, the business receives the bill amount less the discount fee from the bank and debits the discount fee to expenses. The credit entry is used to clear the bills receivable account.
Discounted Bill Dishonored
If the business has discounted the bill with a bank and the customer fails to make payment to the bank on maturity, then the bank can call on the business to make payment.
The following journal entry is used to record the dishonored bill.
The debit entry represents the amount now due from the customer including the noting charges (100) from the bank. The credit entry represents the amounts paid to the bank to reimburse it for the dishonored bill and to pay the noting charges.
It should be noted that the discounting fees of 250 remain a cost to the business and are not recoverable from the customer.
Similar entries would be used to record a negotiated bill with the third party taking the place of the bank.