Some large corporations and governmental organizations are making advance payments available. This is to allow these emerging contractors to stake their claim in the industry and guarantee the performance.
Advance payments are usually to ensure that the candidate has the funds on hand to get materials and pay their staff.
The problems that arise with an advance payment often occur through mismanagement of the funds. It takes discipline and good planning to ensure that you run the best practices for advance payments.
Why You Should Ask for An Advance Payment
A large project undertaken by smaller companies will need an advance payment, to ensure the completion of work in an efficient time frame. It is always a good practice to include that you need an advance payment onto your quotation. If the company who has issued the request for quotation is not willing to supply an advance payment, then they will not consider you to start with.
You need to have on hand a detailed listing of all the materials you need to complete the project. You will already have a pricing structure which you used to quote on the work. Now would be the best time to see if you can improve those prices from your suppliers since you have the order in hand.
The order is always an excellent bargaining chip.
Purchase all the materials before you begin the project. You have the money to do so. There is nothing worse than completing part of the job and then having a shortage of material. Remember they won’t pay you until completion, so the quicker and more efficiently you get that done, the better.
The workforce you put in place for the project is vital to the success of the project. You have provided a quotation based on the staff members you will need to complete the work and at a rate that is reasonable.
Don’t cut down on staff to save money. In the long run, it could end up costing you the success of the project and the prospects of any future projects.
How Much Should You Ask For?
The amount that you request will depend completely on
- the size of the project
- the cost percentage that relates to materials buyouts
- the total cost of paying your staff.
Most companies realize that without the money to do a job, you cannot expect the job to run smoothly.
Advance payment should never include any profit margin for you. The money is simply to allow you to complete the work and to have all the materials available for it.
Things to Consider When Giving an Advance to Your Vendor
There is always a degree of risk involved when you decide to provide your vendor with an advance payment. It is a 50/50 risk where the project could either run without a hitch or the vendor could head for the hills with your money, leaving the project incomplete.
One should take some points into consideration when giving an advance to your vendor. It will safeguard you from the potential risks and dangers.
1. Reputation
The reputation of your vendor should be a deciding factor in whether or not to prepare to supply an advance. It is best to do some research and find out how they have fared on other projects.
There is no use handing money over to the lowest bidder when they never succeed at completing a project.
2. Is There A Better Offer by A More Recognized Company?
The vendor in question may have provided the best price. But, is there another vendor who was perhaps a little higher but doesn’t require the risk of you paying an advance payment? This should be carefully considered and the risk implications deliberated. Remember that you should avoid a price that has come in way below the norm.
3. Expertise
Make sure that the vendor has the expertise to complete the work at the quoted price before handing over any money. Do they have the qualified staff?
Your vendor should be honest about his capabilities. He should be able to manage the advance payment to complete the work in the most efficient way possible.
How to Account for An Advance Payment
If you are one of the fortunate enough to receive an advance payment from a customer, you need to account for the money properly, or you will pay for it later.
A lot goes into categorizing your expenses for a clear account management. Know more about expenses in the business
The accounting records need to be carefully attended to prevent problems later on.
Qualify
The advance payment needs to be qualified. An advance payment is seen as revenue earned if the payment is for goods or services that have been rendered in part or fully but have not yet been invoiced.
An advance payment will, however, be qualified as unearned revenue if the goods or services will be delivered and then invoiced at a later stage. The buyer, in this case, has not yet received any benefits from the vendor for the money paid.
Create A Special Journal Entry for Advance Payments of Any Kind
The payment you have received in advance is not an income. You have not yet delivered any service or product to the customer, and they have not benefited in any way. This payment is a liability to your company. The customer has paid for something, and you still owe them.
Advance Payments Should Relate to A Particular Customer Account
If you don’t already have a customer account with the vendor, open one! The details of the advance should be entered against this customer as well and should leave it open for further input later. Once orders and invoices are in place, they can be offset against this advance payment.
Make Accounting Records for the Amount of The Payment
The payment should reflect in various areas of your accounting records. It will affect the cash account and the customer account. However, it will be in opposite ways. The cash account will debit the amount, and this will increase your expenses. The customer account should be credited with the same amount. This will, in turn, decrease your expenses but increase your liability and equity accounting records.
Invoicing
On successful completion of the work, send an invoice to the customer. Make sure your invoice payment terms are clearly mentioned. The invoice should reflect the advance already paid and display the balance still due. The money will now be recognized as revenue.
Record the Transaction
Be sure to allocate the correct amount to the correct accounts on your accounting records.
Post the Advance
Post the advance to the income statement or balance sheet. How it is posted will depend on whether it is earned revenue (part of the order has been fulfilled but no invoice supplied yet) or unearned revenue (the order will be fulfilled and invoiced at a later stage).
The unearned amount will reflect a liability to the company. In other words, you still owe the customer for the money provided.
Complete the Transaction Once the Work is Invoiced
Post the invoice to the relevant place. This will move the unearned amount from the balance sheet as it can now be directly tied up with an invoice number allocated to the customer account. Should the amount be reflecting as earned income on the income statement, it can now be moved against the invoice.
Record keeping and a paper trail are imperative to good business practices. Keep records of all the payments from your customer. Keep hard copies on file for at least a year while digital files should be maintained for at least seven. An advance payment is quite an involved process. Not paying attention to correctly allocating the amounts can land you in hot water when the tax year winds to an end.
If you have requested an advance, be prepared to take the necessary steps to use it for the good of the project and input it correctly into your accounting files to guarantee always being ahead of the game.
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