Correct Invoices With a Credit Memo

Have you ever billed a customer for a product and realized you overcharged them? Or has one of your customers ever opened a package to find damaged or defective goods? In either case, you should know about a credit memo. A credit memo can help fix these problems. Read on to learn how.

What is a credit memo?

Credit memos are also known as credit memorandums or credit invoices. A credit memo is a negative invoice you send to buyers to reduce the price of a previous invoice. Generally, you’ll issue a credit memo whenever the buyer has a qualifying reason not to pay the total amount of an invoice. 

You may issue a credit memo if the

• Buyer returned goods or rejected services (e.g., damaged product)
• Price on the original invoice was incorrect
• Buyer overpaid on the original invoice

Remember, a credit memo isn’t the same as a refund. A refund reverses the original purchase. A credit memo is a separate transaction that amends the original invoice. 

Credit memo vs. debit memo

While credit memos and debit memos are corrections to invoices, they are entirely different corrections. Credit memos reduce a buyer’s total invoice. Debit memos increase the buyer’s total invoice. 

Use a debit memo if the:

• Costs of services have increased (e.g., a price increase in materials or labor)
• Original invoice was too low

Banking credit memos

Banks can also issue credit memos to amend different transactions. Generally, banking credit memos operate differently than credit memorandums for business. Instead of reducing the total of an invoice, banking memos often increase the balance of a checking account. 

Banks issue credit memos when:

• Adding interest earned from money on deposit
• Collecting a note for the account holder
• Refunding a previous bank charge

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Credit memo format

A credit memo, also known as a credit invoice, isn’t that different from an invoice. The main difference is that the credit invoice must reference the original invoice (it amends the original, after all). 

Your credit invoice should include:

• “Credit Invoice” in a prominent place at the top of the invoice
• Company information
• Customer information
• Date issued
• Credit memo number
• Original invoice number
• Description of goods (e.g., quantity and price)
• Total amount credited

To avoid employee fraud or kickback schemes, you may want to require a manager’s signature to authorize the credit memo. That way, a manager or supervisor can approve the credit memo before sending it to the buyer. 

Settling a credit memo

So, you’ve sent a credit memo to a buyer. What’s next? 

If your buyer’s already paid the full invoice amount, they have two options. Either they can use the credit memorandum on future payments or receive the difference between the credit memo and the original invoice as a cash payment. For instance, if the credit memo reduces the original invoice by $35, the customer can request the $35 credit in cash. 

If the buyer hasn’t paid the invoice yet, they must use the credit memo to reduce the total of the first invoice. Once the credit memo reduces the original invoice, the buyer must pay the remaining balance.

Here’s how to record a credit memo in your accounting system: