What is a credit note? Supplier credit notes explained
A credit note is a document a supplier sends to reduce the amount you owe them, or to confirm they owe you money back. It refers to an earlier invoice and is issued for returned goods, overcharges, price corrections or cancelled orders.
Is a credit note the same as a refund?
No. A credit note is the document that reduces what you owe. A refund is the payment that returns money to you. If you have not paid the bill, a credit note reduces it and no money moves. If you have paid, the credit note creates a balance, and the supplier can refund it or leave it as credit against future bills.
What is a supplier credit note?
A supplier credit note is the mirror image of an invoice. The invoice says "you owe us £1,440". The credit note says "we have reduced that by £300". The bill in your ledger stays in place. The credit note sits beside it and cancels part or all of it.
Typical reasons a supplier issues one:
- You returned goods, or part of a delivery arrived damaged.
- The supplier charged the wrong price or the wrong quantity.
- An order or service was cancelled after invoicing.
- An agreed discount or rebate applies after the fact.
A worked example, with illustrative numbers. You receive a bill for £1,200 plus £240 VAT, £1,440 in total. The supplier agrees to take back £250 of goods and sends a credit note for £250 plus £50 VAT, £300 in total. You now owe £1,140. If the bill was already paid, the £300 is either refunded to you or held as credit against your next bill.
What must a credit note show in the UK?
For VAT purposes, HMRC's VAT guide (Notice 700, paragraph 18.2.3) says a credit note has to reflect a genuine mistake or overcharge, or an agreed reduction in the value of the supply. It must give value to the customer, meaning a real entitlement to a refund or to an offset against future supplies. It must also show clearly:
- an identifying number and the date of issue
- the supplier's name, address and VAT registration number
- your name and address as the customer
- a description of the goods or services being credited
- the quantity and amount for each description
- the total credited, excluding VAT
- the rate and amount of VAT credited, in sterling
- the number and date of the original VAT invoice or invoices
If the supplier issues a credit note without a VAT adjustment, it should say "This is not a credit note for VAT". HMRC's guidance also says the VAT rate on a credit note is the one that applied at the tax point of the original supply, not today's rate. HMRC sets a 14 day limit for issuing the credit note. The VAT guide counts it from the refund payment being made to the customer, and the HMRC manual page on valid credit notes counts it from the decrease in consideration.
When a credit note arrives, check each of those fields, especially the reference to the original invoice and the VAT split. Without the original invoice number, matching the credit to the right bill becomes guesswork. On your side, HMRC's guidance on correcting VAT errors says you can adjust your next VAT return where you have received a credit note or replacement invoice, within the error correction limits. Ask your accountant if the amounts are large or the timing crosses a return. A credit note that is missing from your ledger also shows up as a difference when you reconcile the supplier statement.
Credit note, refund and debit note: what is the difference?
| Document or event | Who sends it | What it does |
|---|---|---|
| Credit note | Supplier | Reduces what you owe, or records what they owe you. A document. |
| Refund | Supplier pays you | Money actually returned to your bank or card. A payment. |
| Debit note | Supplier (for VAT purposes) | Increases what you owe, for example after an undercharge. |
A credit note and a refund are two steps, not two names for one thing. The credit note is the paperwork. If you have not paid the bill yet, the credit note simply reduces it and no money moves. If you have paid, the credit note creates a balance in your favour, and the refund is the payment that settles it, unless you choose to leave it as credit against future bills.
HMRC treats a debit note as the supplier's document for an increase in price, showing the same kind of details as a credit note plus the amount of the increase. For the everyday difference between an invoice and a bill, see invoice vs bill.
How do you record a supplier credit note in Xero?
In Xero the document is called a credit note, and it is added from the bills area. From the Xero Central page on adding a supplier credit note:
- In the Purchases menu, select Bills.
- Click New bill, then select New credit note.
- Enter the details. The fields match a bill.
- Click Approve. If you have an awaiting payment bill for that supplier, Xero lets you enter the amount to credit and click Allocate Credit.
You can also open an awaiting payment bill, use the menu icon, and select Add credit note. Approving it allocates the credit to that bill. Put the number of the original bill in the Reference or Description field so the link is visible later. If the bill has already been paid, Xero's guidance is to refund the credit note, which records a payment against it that you can then reconcile to the bank statement line. The steps follow Xero Central's US edition of the article, so UK menu names may differ slightly.
How do you record it in QuickBooks Online and FreeAgent?
QuickBooks Online calls it a vendor credit. Choose + Create, then Vendor credit, pick the vendor and enter the category or item details. When you next open Pay bills, QuickBooks applies the available credit to the bill and shows a Credit Applied amount. The paths for a bill that was already paid, or a refund to a credit card, are different, and the full steps are in how to record a vendor credit in QuickBooks Online.
FreeAgent calls it a bill credit note. Open Bills, choose Add new bill, and enter the line amounts as negative numbers. Then net it off against the bill. If you will not pay the bill at all, FreeAgent's support guide says to create a credit note for the full amount rather than delete the bill, add a manual payment on the credit note dated the same day, then add a manual payment on the bill for the same date. If you will pay only part of it, credit the part you will not pay, then pay the remainder from your bank account.
The pattern is the same in all three: keep the original bill, add a separate credit document for the same supplier, and link the two so the supplier balance is correct. Never delete or edit the original bill to make the numbers work. That removes the audit trail your accountant needs.
Where does Datamolino fit?
Datamolino captures supplier credit notes alongside invoices and marks them as credit notes when the title says so or the total is negative; you can change the document type if it picked the wrong one. On export it sends a credit note to Xero, a Supplier Credit to QuickBooks Online, or a credit note to FreeAgent, adjusts the signs the software expects and attaches the original document. You then allocate the credit against the original bill in your accounting software, as described above.
What is the difference between a credit note and a debit note?
For VAT purposes, a credit note records a reduction in the value of a supply, such as an overcharge or a return. A debit note records an increase, such as an undercharge. Both must show the supplier, customer, original invoice reference, description, amount and VAT.
