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Receivables in the sense of the BGB
Types of receivables from a company's perspective
Tax law approaches and accounting rules for receivables
Enforceability and enforcement of receivables in the case of liabilities
Valuation and limitation periods for receivables
Efficient receivables management
The term receivable generally refers to a demand or a claim. In commerce, receivables are part of a company's assets — for example, outstanding customer invoices. Liabilities, on the other hand, are claims the company itself must fulfill. They can also be described as obligations or debts. The issuance of bonds is also a liability.
Receivables under the HGB
In the business context, a receivable is a claim that the company asserts against a debtor. These receivables must be presented by companies as part of current assets in the annual balance sheet. According to the Handelsgesetzbuch (HGB), distinctions are made here, among others, between the following receivables:
- Receivables from deliveries and services (§266 classification of the balance sheet, para. 2B II 1 HGB)
- Receivables against affiliated companies (§266 para. 2B II 2 HGB)
- Receivables against companies in which there is a shareholding relationship (§266 para. 2B II 3 HGB)
For most businesses, receivables from deliveries and services, which result from normal business operations, are by far the most economically significant.
Both contracts for the sale of goods and agreements for the provision of services do not create a receivable before performance has occurred, but rather a pending transaction. Receivables are shown on the asset side of the balance sheet as part of current assets under the item Receivables and other assets, positioned between inventories and cash equivalents. This placement reflects their proximity to liquidity, since they can generally be converted to cash faster than inventory items, but they are not liquid assets themselves.
Receivables in the sense of the BGB
Receivables in the legal sense are defined in the Bürgerliches Gesetzbuch (BGB) and are described as obligations arising from a debtor-creditor relationship. In Book 2, Section 1 of the BGB, under the title "Obligation to Perform" from §241 onward, duties arising from obligations are regulated. A receivable is sometimes also referred to as a contractual or civil-law claim. However, not every colloquial "receivable" corresponds to an actual legal claim under the BGB. In everyday usage the terms are often used interchangeably.
A receivable, both legally and for tax purposes, is only collectible if it is enforceable. That means the receivable must rest on a legal relationship between the parties involved; otherwise it is illegal and therefore unenforceable.
Legally, every sale of goods as well as every provision of services that are not paid for immediately in cash but within a certain period leads to a receivable. When a supplier offers goods on account, this is also referred to as supplier credit.
Companies present receivables on the asset side of the balance sheet and value them in accordance with legal regulations, taking into account the likelihood that the debtor will settle them. Systematic and efficient receivables management is one of the most important prerequisites for a company's success.
Types of liabilities
Liabilities must also be broken down on the liabilities side of the balance sheet. These include, for example:
- Liabilities to credit institutions
- Advance payments received on orders
- Trade payables (liabilities from deliveries and services)
- Liabilities from the acceptance of bills received and the issuance of own bills
- Liabilities to affiliated companies
- Liabilities to companies in which there is a shareholding relationship
- Other liabilities from taxes and social security
Liabilities for which the due date or the amount of the obligation is not known are also referred to as provisions.
Types of receivables from a company's perspective
A receivable for companies usually arises from the delivery of goods or the provision of services to a purchaser or client. Therefore, managerial accounting always divides a receivable into one of the following three categories:
1. Receivables from deliveries and services
This category includes all company-specific commercial activities such as the production and delivery of goods and services or the provision of these.
2. Receivables from other financial assets
Receivables from other financial assets include only financial assets that are not part of the company's normal operating activities. Practical examples are trading in promissory note bonds, takeover claims arising from the acquisition of another company, or other financial activities in which non-core services are provided.
3. Receivables from other non-financial assets
These receivables correspond to the pattern of the second category but include only tangible assets that are not classifiable as financial assets. For all receivables there are additional accounting principles that each company must observe.
Tax law approaches and accounting rules for receivables
Different types of receivables and liabilities must be accounted for differently. This is partly due to the regulatory function of tax law and partly to make it easier for companies to prepare their financial statements. The basic instrument for correctly representing receivables in the accounts is the profit and loss statement (GuV-Rechnung). Receivables are also summed and entered directly in the balance sheet under item B II and, together with the notes to the financial statements, reflect a realistic picture of the company's situation. Only outstanding receivables are entered here. Receivables that have already been settled are reflected in the profit and loss statement. This also applies to receivables that were outstanding but already paid at the turn of the year before they became due. In the balance sheet, receivables are further subdivided into different categories because the balance sheet is intended to depict the company and does not itself serve the detailed functions of managerial accounting. All categories of managerial accounting are combined here into a single category and no longer play a role within the balance sheet itself. This is due to the usual separation between managerial accounting and annual financial statements.
Enforceability and enforcement of receivables in the case of liabilities
As mentioned above, a receivable is only legal if it is enforceable. Enforceable in this case simply means that the receivable must not have arisen illegally. A receivable is therefore a claim that can be asserted against the debtor. However, within the scope of his legal options, the debtor often has the opportunity to contest the receivable. In the case of receivables from deliveries and services, appropriate examples would be defective delivery, incorrect delivery, or improper delivery. The latter is particularly common in times of online commerce as a reason for refusal to pay. In such cases the seller may have delivered the agreed item but packaged it so poorly that it arrives defective to the customer, the delivery company makes an error and damages the goods, or the goods are delivered to the wrong address. In all of these cases, if the seller is acting commercially and is delivering to a customer (not a business partner), the seller is fully liable and obliged to arrange a replacement delivery or otherwise replace the goods. In the case of a private seller, the seller may exclude liability and thus be released from such challenges by the debtor. This brief excursus is fitting because it illustrates the fundamental legal assessment of receivables. For reasons of consumer protection — and here a private seller is also defined as a consumer — different legal standards often apply to commercial and private creditors. While a commercial creditor must inform customers in detail in advance and may not deviate from the contract, a private creditor is afforded greater freedoms. The principle "according to good faith" plays an important role here because the law assumes that a private creditor does not have full oversight of the legal situation or the necessary specialist knowledge. The situation is different in B2B transactions, where a commercial provider asserts a claim against another commercial provider. In such cases consumer protection laws on contestation do not apply because both parties have sufficient opportunity to inform themselves about the matter.
Origin of receivables
Legally, a receivable is a claim that arises from an obligation-based relationship. In business life, a receivable is aimed at receiving a specific sum of money or another performance from a business partner with whom the creditor has entered into a contractual relationship and for whom the obligation to deliver goods or provide a service has already been fully performed.
For goods deliveries, the timing is decisive. A receivable arises only when the transfer of risk has occurred — in other words, when the risk of loss of the sold item lies with the customer. The contractual provisions on the provision of a service determine to what extent the service is considered performed and thus the point in time from which a receivable can be asserted.
Valuation and limitation periods for receivables
Under German accounting law, the principle of prudence and the strict lower-of-value principle apply to the valuation of receivables. Accordingly, historical acquisition or production costs are the highest value to be used as a basis. By contrast, Anglo-Saxon accounting standards provide that under certain conditions receivables may be stated in the balance sheet at a higher valuation such as fair value.
A receivable with a term of more than one year must be discounted under German commercial law to present it at its appropriate current value. In addition, at each balance sheet date all of a company's receivables must be reviewed for their recoverability. Overdue receivables that have not been settled by the customer within the contractual payment period are examined to determine whether payment can be expected soon.
If it is determined that the probability of collection is low, a valuation adjustment must be made to the realistic value. The same applies to not-yet-due receivables against debtors known to be insolvent, for example due to the opening of insolvency proceedings, or for other reasons likely to delay or prevent payment.
Careful and accurate valuation of all receivables serves creditor protection because only in this way can the true financial strength of the company be correctly assessed. In particular, credit institutions examine, using matching calculations that compare assets and capital according to their maturities, what loan amount is optimal for a company so that it can likely be repaid without problems.
Shareholders of a company also have a strong interest in receivables being presented at realistic values in the balance sheet. Appropriate valuation of receivables also prevents excessively high distributions that the company cannot sustain financially and that would endanger its substance. A receivable does not expire only by settlement, when the debtor pays the outstanding amount or performs another owed service, but also by limitation.
The limitation period begins at the end of the year in which the receivable arose and, under German law, is three years. The limitation of a receivable is suspended when the creditor asserts it in court.
Efficient receivables management
Every company, regardless of its size or industry, depends on invoices it issues to customers for deliveries and services being paid in full and within the contractually agreed payment period. Otherwise there is a risk of a financial bottleneck that can quickly endanger the company's existence. For this reason, monitoring receivables is of the greatest importance.
Receivables management already begins with the selection of customers with whom the company enters into business relationships. Ideally, a company should extend performance or supply goods on account only to business partners whose creditworthiness check was positive. This applies, for example, to mail-order companies as well as to credit institutions.
Creditworthiness is often checked by requesting information from credit bureaus about private individuals and other companies. In accounts receivable bookkeeping, all receivables are recorded and tracked until they are settled or written off.
Regularly produced lists show all receivables by age structure and maturity. Overdue receivables are either dunned immediately or after a certain grace period. If the customer does not respond, further reminders are issued. If this process does not lead to settlement, the responsible manager usually hands the case over to the company's legal counsel or to a debt collection agency so that the outstanding receivable can be collected through legal channels.
It is wise to stop deliveries at an early stage of dunning so as not to generate additional uncertain receivables. Insuring receivables can also be a good way to protect the company effectively against payment defaults. This form of risk mitigation is particularly common in foreign trade.
Factoring
Many companies also decide to sell a large portion or their entire receivables portfolio to a specialized financial organization by way of factoring. This allows the business to focus entirely on its core activities because it no longer has to deal with collecting receivables. Factoring also provides a liquidity advantage since the value of the receivables becomes available more quickly.
However, as consideration, a deduction from the receivable value must be accepted, which the factoring company retains as its fee. In any case, management should regularly inform itself about all outstanding claims and the smooth functioning of receivables management.