Last updated by
March 1, 2021
Accounts payable are calculated by taking the beginning accounts payable balance, adding any new unpaid bills and subtracting any payments you have made.
If accounts receivable is the next best thing to cash for a company, then accounts payable is the next worst thing as it is bills waiting to be paid. Understanding how to calculate accounts payable is important to the success of any business. Relying on an incorrect accounts payable balance can lead to poor business decisions, and damage relationships with vendors.
In simple terms, accounts payable is the total of all unpaid bills or invoices that have not yet been paid. Accounts payable are calculated by taking the beginning accounts payable balance, adding any new unpaid bills and subtracting any payments you have made.
Understanding accounts payable is critical to smart business decisions. A rapid increase in accounts payables poses cash flow challenges if your cash and receivables are not large enough to cover the increases.
If you are new to the concept of accounts payable, this article will review the basics. As a manager or owner, you need to understand these principles even if someone else handles your accounts payables.
Table of contents
Accounts payable is the amount of money you owe suppliers, vendors, employees, and other third-party individuals or companies for providing a product or service to you. In other words, accounts payable is credit extended to you by a third party allowing you to pay sometime in the future.
Accounts payable includes any bill that must be paid in a short period of time, typically 30 days. This may include utility bills, raw material purchases or other items purchased on credit. Accounts payable does not include credit card balances or long-term debt.
An example of an accounts payable includes bills for electricity, gas, or telephone services. It may also relate to raw material you purchase to manufacture your own specific product. Assume you manufacture baseball bats. You don’t grow the trees so you have to purchase the wood to produce the bats. The wood is a raw material that you purchase on terms. The supplier sells you wood in bulk and agrees to let you pay for the wood in 30 days. When you pay the vendor invoice, it reduces the accounts payable by the amount paid.
The accounts payable balance is located on the balance sheet and is listed under the liability section. The amount next to the accounts payable line is the total amount owed by you to your vendor or supplier.
Below is a simple balance sheet layout detailing how it might look. Your balance sheet may have more or less but this visual will give you an idea of where to look for accounts payable.
Accounts payable will show up as a credit balance and represents the combined amount you owe to all your vendors and suppliers. A positive or debit accounts payable balance would indicate you have created an incorrect entry or you paid in excess of the bill amount. Investigating and correcting any such errors helps avoid poor decisions.
Accounts payable is related to accounts receivable in that it offsets or reduces the value of your assets of which accounts receivable is one. Because both accounts receivable and accounts payable are short term assets and liabilities, they are compared often as collections on accounts receivable will be used to fund payment on accounts payable.
Accounts payable are documented in detail and in total. Each transaction and each payment made by you should be recorded in a subsidiary ledger also called a subledger. The total amount of the accounts payable subledger should match the credit balance for accounts payable on the balance sheet. If these balances don’t match, you will need to review the subledger to identify any errors.
What is accounts payable beginning balance?
The accounts payable beginning balance is the opening balance on the first day of a specific period. If you are starting a new business your opening balance will be zero. If you are an existing business and have been purchasing items on credit the opening balance is the amount on the first day of a new month, or a new year.
Calculating monthly accounts payable is accomplished by increasing the beginning balance for any additional vendor invoices received during the period or decreasing the total amount for any payments made during the period.
Keeping track of individual bills by vendor is critical as this helps you easily keep a running balance of accounts payable.
Yes, most accounting systems automatically calculate accounts payable assuming you enter all bills and payments. All you are required to do is record the transactions in the accounts payable subsidiary ledger and update the total balance on the balance sheet.
Two popular small business accounting systems are Xero.com and QuickBooks Online. Each will handle accounts payable for you.
Accounts payable are being adjusted regularly as bills are received and payments made. If you are asking can you adjust accounts payable, most likely you have an error. Accounts payable adjustments should be done at the transaction level, since the subsidiary ledger and the accounts payable balance on the balance sheet need to agree.
Everything in accounting can be adjusted, even accounts payable. But, should you adjust accounts payable? Since accounting software automates accounts payable you should avoid manual adjustments as this can lead to unwanted problems. If you understand what you are doing it's ok. But if you don’t understand what you are doing, consulting the online help desk or an experienced accountant is recommended.
Different accounting systems will have different navigation, but you can see the concept is basically the same. You are looking for the balance sheet report which will always be found under the “reports” section.
Every balance on the balance sheet is important. Accounts payable, next to accounts receivable is one of the most important numbers to fully understand. Accounts payable reduces your cash flow. If you buy on credit, you need to make sure you have the resources to pay them as they are due in 30 days.
It is always good to monitor cash and accounts receivable as the combined total of these amounts is what will be used to pay accounts payable. If your accounts payable is larger than the combined balance of cash and accounts receivable you could have a cash flow issue. So, yes accounts payable balance is important.
There are several reports that can help you manage your accounts payable including the accounts payable aging report. This will help you know how old the accounts payable balances are for each vendor. The older an account gets the more frustrated your vendors will also get. Without payment you risk damaging the relationship, and risk getting any more product from them.
A good strategy for managing accounts payable is to pay on or before due dates. The more consistent you can be with this, the better the relationship with your vendor.