A document used to reduce the amount owed by a buyer
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What is a Credit Memorandum?
A credit memorandum – often shortened to credit memo – is given to a customer by a seller that provides goods and/or services. The memo is issued as a way to reduce the amount owed by the customer. The deduction is taken from an invoice that was previously issued, which is the most common type of credit memorandum.
There is another type of credit memorandum that effectively does the same thing. A bank sends a credit memo after it increases an individual’s checking account in regard to a specific transaction.
Summary
- The most common type of credit memorandum (or credit memo) is issued by a seller and given to a buyer as a means to reduce the amount that the buyer owes.
- Credit memorandums are usually issued because of a price dispute or a buyer returning goods.
- If a buyer has paid the full amount owed, they can either use the credit memo to offset future invoices or demand a cash payment; a buyer who hasn’t paid can only use the credit memo as a partial offset, but they are still required to pay the amount owed after the reduction.
Why are Credit Memorandums Issued?
Credit memorandums can be issued for a number of reasons. The most common reasons involve a buyer returning goods, a price dispute, or as a marketing allowance. The credit memo means that the party who made a purchase from the seller will not end up paying the entirety of what was owed at the time of purchase.
How Credit Memorandums are Settled
If a buyer has paid the full amount of the invoice, they have two choices to settle a discrepancy in their favor. One option is to use a credit memorandum toward any future payments they may make to the seller. Also, the buyer can instead ask for a cash payment based on what the seller owes the buyer.
If the buyer hasn’t paid the seller anything yet, they can only use the credit memo as a partial offset to the invoice. They will still be required to pay what is owed after the reduction specified in the memo.
In regard to recording a credit memorandum, the buyer records the memo in its accounts payable balance as a reduction. The seller, then, must also record the memo as a reduction, but it is a reduction of its accounts receivable (money coming in).
Additional Resources
CFI offers the Financial Modeling & Valuation Analyst (FMVA)™ certification program for those looking to take their careers to the next level. To keep learning and advancing your career, the following CFI resources will be helpful:
FAQs
One type of credit memo is issued by a seller in order to reduce the amount that a customer owes from a previously issued sales invoice. Another type of credit memo, or credit memorandum, is issued by a bank when it increases a depositor's checking account for a certain transaction.
Does a credit memo reduce revenue? ›
Credit memos related to a return, damaged goods, or billing errors may decrease the seller's revenue. This adjustment reflects the reversal of previously recognized revenue associated with the goods or services covered by the credit memo.
What is credit memo example? ›
For instance, a buyer may purchase a product one day before its price is marked down 30 percent. The seller agrees to issue a credit memo for the difference between the price the buyer paid and the new sale price.
Can you undo a credit memo? ›
You cannot reverse the credit memo that has been partially applied or refunded. The reversal is allowed after the refund on the credit memo is cancelled or the credit memo is fully unapplied.
How does a credit memo look like? ›
The contents of an offering memorandum include the following: Description of the property, including an overview of the site, location, demographics, operation, and management. A summary of the property's historical, current, and projected future returns based on various assumptions.
Can a credit memo be positive? ›
A credit memo is used whenever a customer is left with a positive account balance. This could be if they return a product and are refunded for it, if work was completed for less than the amount initially quoted, or if there is a mistake on an invoice that isn't detected until after payment has been made.
Is a credit memo good or bad? ›
Credit memos are just a way for businesses and other entities to make sure they aren't overcharging you. While a refund can be “better” because you can use the money anywhere. A credit memo means that you're owed money by someone.
Is a credit memo legally binding? ›
A credit invoice is a legally binding document provided to a client to let them know that a refund or credit is due to them. It is also known as a credit memo or a credit note. Common reasons to issue a credit note are invoice errors, customer prepayment receipts, or item returns.
What three situations can a credit memo be used? ›
Credit memos are issued to adjust for unpaid invoice balances due to a return, price adjustment or additional cost of doing business, such as a bank fee.
Can a credit memo be used as a refund? ›
Limited use: Credit memos can only be applied to open invoices or bills. They cannot be used for automatic refunds or directly impact your cash flow.
The most common type of credit memorandum (or credit memo) is issued by a seller and given to a buyer as a means to reduce the amount that the buyer owes. Credit memorandums are usually issued because of a price dispute or a buyer returning goods.
Is a credit memo a negative invoice? ›
A credit memo is a negative invoice you send to buyers to reduce the price of a previous invoice. Generally, you'll issue the memo whenever the buyer has a qualifying reason not to pay the total amount of an invoice. Remember, the memo isn't the same as a refund. A refund reverses the original purchase.
How should credit memos be recorded? ›
The credit memo is likely to contain information about the purchase itself. Purchase order and invoice numbers should be included to provide as much context as possible for why the credit memo was issued, and facilitate updating the credit memo once the buyer uses it on a future purchase.
What is the journal entry for a credit memo? ›
In the event of a credit memo, the journal entry you will make is a debit to the supplier's account, which reduces your liability. Then you credit the purchase return account, which decreases the expense.
What is an example of a credit note? ›
For example, if a product originally priced at Rs. 100 is incorrectly invoiced at Rs. 150, then a credit note of Rs. 50 will be issued by the vendor.
