What is a credit note?

What a credit note means

Once an invoice has been issued, good bookkeeping practice is not to delete or edit it. If the amount turns out to be wrong, goods are returned or a discount is agreed afterwards, the seller issues a credit note instead. It is effectively a negative invoice: it reduces what the customer owes, or creates a credit they can use against future purchases or have refunded.

Credit notes keep a clear audit trail. Anyone reviewing the books can see the original sale and the later adjustment, with a reason.

What a credit note should show

• The words "credit note" and a unique credit note number
• Date of issue
• Seller's and customer's names and addresses
• The original invoice number it relates to
• Description and value of the goods or services credited
• The reason for the credit

If you are VAT registered, it must also show your VAT number, the VAT rate and the amount of VAT being credited. A credit note reduces your output VAT, and the customer must reduce the VAT they reclaimed.

Example

A printer invoices a client £2,500 plus £500 VAT for 5,000 brochures. 1,000 arrive damaged, so the printer issues a credit note for one fifth: £500 plus £100 VAT, total £600.

In the printer's VAT return, output VAT falls by £100. The client reduces the VAT it reclaims by the same £100.

Why it matters for your business

Raising credit notes properly keeps revenue, accounts receivable and VAT correct. Deleting invoices or "netting off" a refund against a different sale creates gaps that are hard to explain to HMRC and leaves customers' statements disagreeing with yours. In Xero and QuickBooks, a credit note can be allocated against the original invoice in a couple of clicks.

Credit note or refund?

A credit note does not have to mean money goes back to the customer. If they have not yet paid, it simply reduces the amount due. If they have paid, you can either refund them or leave the credit on their account to set against the next invoice. Agree which with the customer and record it the same way in your software, so their statement matches yours. Number credit notes in their own sequence, separate from invoices.