What Is Credit Note?

By Team TranZact | Published on Feb 20, 2023

A credit note comes into the rescue for varied transactional problems such as quality, quantity issues, and packaging defects and to reflect adjustments or corrections in original payments when required. It helps to keep records of credit given, prevent billing errors and ensure good relationships with customers by demonstrating the willingness to rectify errors in transactions.

A credit note can be vastly beneficial for manufacturing business owners and therefore, it's important to know all about a credit note, the process and limitations of issuing a credit note. So, let's dive into this topic and understand more about a credit note.

Defination of a Credit Note?

A credit note, also known as a credit memo, is a financial document issued by a seller to a buyer. Credit Note indicates a reduction in the amount owed by the buyer due to reasons such as invoicing mistakes, damaged goods, or purchase cancellations.

When issuing a credit note, the seller is obligated to return some amount of money to the buyer. Whether in full or partial depends on the terms of the agreement.

The two primary reasons a credit note is issued are:

to make appropriate adjustments to the books of accounts and
to inform the buyer that a certain amount of money will be either returned or adjusted in the following transaction.

When a seller issues a credit memo, the buyer also issues a debit note in return.

Let’s go over this with a simple example.

Imagine you went to your local vegetable vendor and purchased vegetables worth Rs 500.
Once you get home you realize that the fruits you purchased had gone bad and they amounted to Rs 150.
You furiously go back to the vegetable vendor demanding he replaces the spoilt fruit.
Your vegetable vendor obliges, only to inform you that his stock of fruits for the day is completely exhausted.
Now, instead of giving you back the Rs. 150, he issues you a credit note, informing you that you can come to his shop anytime tomorrow onwards and buy fruit worth Rs. 150.

This is the primary reason for the existence of a credit note.

Reasons Why Credit Note are Issued

Now that we've taken you through what exactly a credit note is, let's move ahead and take a closer look into the reasons why a supplier or seller may issue a credit note. A few common reasons are:

A seller issues a credit note if the goods sold are damaged or incorrect.
If the seller charges the buyer more than the actual price of the product/ service, they issue a credit note to reverse the extra amount.
If an available discount on a certain product has not been applied during the creation of the purchase invoice, the seller will issue a credit note.
A credit note is issued to the customer if the seller wishes to cancel a payment that's pending from the buyer's end.
Sometimes, a seller may want to issue a credit note to give a buyer a heads-up to avail of a post-sale discount or a pre-bought gift hamper.
A seller will issue a credit note if the goods sold are of the wrong quantity.
If the buyer has returned a product and wants it replaced, but that product isn't in stock at the moment, the seller will issue a credit note to the buyer.
However, there are many other reasons a seller may issue a credit note to a buyer. This often differs depending on the type of business or industry you're in.
For example, the reasons for the issuance of a credit note in the retail industry will be very different from those of someone in the agriculture industry.

How to Properly Issue a Credit Note?

The process of issuing a credit note to a buyer or customer is as follows;

The supplier sells products, goods or services to a specific buyer and provides them with a tax invoice.
Upon receiving the product, the buyer realizes that he/she has an issue with the product - be it quality, quantity, or due to a wrong product altogether. The buyer returns said goods to the seller and provides them with a debit note.
Upon receipt of the debit note, the seller issues a credit note to the same customer as an acknowledgement.

The Limit of Issuing a Credit Note

There is no time limit as such when it comes to the issuance of a debit note and credit note. Debit notes and credit notes under GST need to be declared under the GST returns that are filed for the month in which such a document is issued.

GST laws strictly mention the time limit within which you need to declare the same under GST returns if it pertains to a financial year in particular. They need to be declared on the earlier of the two below-mentioned dates:

30th September of the following year in which the transaction was made.
The actual date of filing the annual returns for the concerned period.

Content and Format of Credit Note

There isn't a precise credit note format under any law as such. However, a credit note issued by a supplier usually contains at least the following:

Contact details of your business.
Full information of the customer to whom it is issued, which includes his/ her bank details.
The original invoice number along with the date and the products/ services that have been or were supposed to be delivered.
The reason why the credit note has been issued.
New payment terms (if any).
The Harmonized System Nomenclature (HSN) and Service Accounting Code (SAC) codes for the goods involved.
The name of the product/ service along with the quantity, price and taxable value of the product/ service provided along with the date and the credit amount you're offering.
The integrated goods and service tax (IGST) along with the total calculation after tax.
GST identification number of supplier and buyer.
Serial number and date of the matching tax invoice.

Steps to Create a Credit Note

The steps to create a credit note are fairly simple. It can be created in Excel, Word or automated software that your organization can use to accelerate the process of creating credit notes, debit notes and invoices.

We've listed out the basic steps to create a credit note below:

Choose the debit note or credit note template that you wish to use.
Make sure your most recent company logo is on it.
Key in the date of issue of the credit note along with the unique credit note number.
Add the invoice reference number of the credit note.
Don't forget to add the GSTIN numbers of the buyer and seller.
Save the credit note and you're all set.

Read Also: Unlock the power of your Inventory

Credit Note in Accounting (Bookkeeping Notes)

Now that you know what a credit note is used for, the next step is to understand how you can incorporate it into your accounting/ bookkeeping system.

If your organization follows traditional accounting practices, then you will need to include every credit under the sales for each respective customer.

However, if your organization follows the double-entry bookkeeping system, you will be required to record the credit note in GST as a debit under revenues, and credit under accounts receivable.

Create Credit Notes Conveniently With TranZact

We’re sure you can proceed to start creating credit notes in a hassle-free manner after understanding what a credit note is in detail. Regardless of the nature or sector of your business, you will need to create a credit note at some point, and that’s where TranZact can help.

TranZact helps SME manufacturing businesses to create diverse GST-compliant documents with ease. Its solutions will ensure you enjoy a seamless experience as it helps you digitize your entire business.

Credit Note FAQs

Q1. What is the difference between a debit note and a credit note?

In simple terms, the difference between debit note and credit note or debit note vs. credit note is - that a credit note indicates money owed to a buyer due to the revision of a specific invoice. While a debit note represents money owed to a seller due to a revision of a specific invoice.

Q2. When a credit note is issued?

There are several reasons a credit note is issued, most of which depend on the nature of your business. However, some of the more common reasons are - if the goods sold are damaged, incorrect or of the wrong quantity, if the seller has charged the buyer more than the actual price of the product or if the seller wishes to cancel a payment that's pending from the buyer's end.

Q3. Who issues a credit note?

A credit note is always issued by a seller to a buyer.

Q4. What is the difference between a credit note and a credit invoice?

Although they sound similar, there is a stark difference between a credit note and a credit invoice. A credit note is a financial document a seller issues to help a customer purchase goods from them at a later date without having to make a payment. This is often due to goods being returned because of specific reasons.

A credit invoice, on the other hand, is an itemized list of entries for which a business needs to make payments to its various suppliers and vendors.

Q5. What Is a Credit Note?

A credit note is a formal document issued by a seller to a buyer, indicating a reduction in the amount owed by the buyer. This can be due to various reasons such as returned goods, billing errors, or other discrepancies in the original invoice.

Q6. Why Is a Credit Note Issued?

A credit note is issued for several reasons, including:

Damaged or Incorrect Goods: If the buyer receives goods that are damaged or not as described, a credit note may be issued as a refund.
Billing Errors: If there are mistakes in the original invoice such as overcharging, a credit note is issued to correct the error.
Goods Returned: If the buyer returns the purchased goods, a credit note is issued to adjust the payment.Cancellation of Services: If services are cancelled after invoicing, a credit note is issued to nullify the invoice.

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