What is a credit note?

A customer sends back part of a delivery because the wrong size was supplied. The sales invoice has already gone out, so the customer should pay less than it now says. You do not change that invoice. You create a new document that reverses the amount, the credit note.

Why not simply edit the old invoice? Because it has been sent, may already be included in the VAT return and sits in the customer's books. A credit note has its own number and refers to the original invoice. That keeps the order of postings traceable and lets anyone see what happened.

The credit note also affects VAT. What you reverse also corrects the VAT on that part, in the return for the period in which you post the credit note. If you are unsure how to treat an unusual case, ask your accountant.

A credit note can also come the other way. If a supplier sends you one, perhaps for damaged goods, it reduces an earlier purchase invoice. Post it in the same way and link it to the original invoice.

What goes wrong? A credit note is forgotten or not linked to the original invoice, and the customer receives a reminder for an amount they no longer owe. Also agree clearly whether the balance is paid out or set against a later invoice, and write that down. A credit note should also not go out unchecked. Have someone other than the person who created it approve it, because it lowers your turnover and can be misused.