Managing deposits with invoicing software

Requesting an initial deposit or down payment on an invoice can be highly beneficial for a small business. Within certain industries, it may be standard practice to require a percentage of the total amount due to be paid upfront.

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This article explains how your business can implement deposits/ down payments within its invoicing and use them to better secure full payments from customers. It looks at when a deposit is typically requested, the advantages using down payments has, and how your business can record these transactions with your invoicing software.

Securing a sale with a down payment

A down payment or deposit is an amount of money that is paid by the customer up front, before the goods or services are provided. The deposit acts as a partial payment and confirms the sale. 

Depending on the business, a deposit may be refundable up until a certain date. In some cases, for example, it can still be returned within fourteen days of payment. 

At other times, however, the down payment is non-refundable, meaning that even if the buyer backs out of the sale or is unable to pay the full amount, their deposit isn’t returned to them.  

If a deposit has been paid and the sale goes ahead successfully, this down payment should then be deducted from the final payment amount.

For example, if an artist commissions a piece of art that cost £10,000, they may request a 10% deposit from their client. As the client has already paid a £1,000 deposit, this down payment can be subtracted from the total amount due, and the sales process is completed once the remaining £9,000 has been collected.

When to request a down payment

Using down payments can particularly help certain types of businesses. They are commonly used in real estate, or as security deposits in vehicle rentals, for example. 

It’s up to the discretion of the seller whether or not they want to request a down payment on their sales. If a sale is particularly risky, requesting a deposit may make the seller feel more comfortable proceeding.

When the sale is particularly large or requires the business to invest in materials or products that can’t be easily resold, the down payment helps to cushion the business against the financial risk of the client pulling out. 

If the client does pull out of a sale after an invoice has been sent, a credit note must be issued to cancel the payment and balance the business's books.

The down payment therefore functions as a form of collateral for the total sale amount, minimises financial risk, and helps to increase confidence the sale will go ahead as the customer won’t want to lose a non-refundable deposit. Often, a business will only begin work once they have received a deposit.

How down payments can support your business

Collecting a down payment for your work can improve your business’s cash flow. It means that you can cover all of your business expenses whilst you work on the project. For projects that take a significant time to complete, the deposit helps to provide income before the final payment is received.

A down payment does not guarantee you’ll receive the full payment for a project, even if it’s non-refundable. However, it does provide you the security of knowing you’ll at least receive a portion of what is owed and will help to prevent your company from losing money. 

If a customer pays a deposit, it also demonstrates that they have the money to cover at least a portion of the total and are serious about the work.

Recording down payments with invoicing software

Many working with Word and Excel invoice templates will simply edit the deposit and add it to the invoice. Something similar can be done in online invoicing. You can process a deposit in the same way as you would for any other product or service.

Simply create a new invoice and add the down payment as an item. Make sure to label it as 'Down payment' or ‘Deposit’ and include any terms and conditions, for instance, whether this is refundable or not.

When you then create a second invoice for the total amount due, you can add a line with a negative amount which refers to the prepaid amount. This will then be subtracted from the total.

For example, if the total cost of a piece of commissioned art is £10,000, but you've already collected a £1,000 deposit, you would add an item labelled ‘Commissioned Artwork’ priced at £10,000, and then another line named ‘Deposit’ and register this as -£1,000. The total due on the second invoice will therefore be £9,000 as the deposit has already been paid.

Importantly, even if you're only invoicing for a down payment, the invoice must still follow the same legal invoice requirements as normal.

VAT and down payments

If your business is VAT registered, you should include VAT on your deposit, just as you would for any other invoice. The tax point will be either the date that you issue the VAT invoice for the deposit or the date that you receive the payment, whichever happens first.  

If your terms and conditions allow for a refund of a deposit, you do not have to account for the VAT if it’s returned in full to the customer. If however, the customer decides not to take up the goods or service and you keep the down payment, VAT remains due on the money you have received and must be accounted for with HMRC.

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