AR Cash Application Process Explained

AR Cash Application Process Explained

Cash is oxygen. It seems a bit juvenile to stress the importance of cash in a business context, but having liquid assets on-hand to move around and make strategic decisions with is critical to a business’s function, and you can’t do that unless you’ve collected the cash owed to you and applied it to the correct accounts.

Otherwise, it’s just this big, convoluted batch of miscellaneous payments in accounts receivable. It’s like a closet full of presents — you have to check the names of the presents to know who to give them to before opening them.

Today, we’re going to talk about what cash application is and how you can improve your own AR cash application process.

What is cash application?

Cash application is matching a payment to its correct invoice and opening that cash up for use in other parts of your business.

Back in the world of physical ledgers and checks, cash application would be a pile of checks on a desk, a ledger of account balances, and a receipt book on the other end. The accountant would see who sent a check, apply that amount to their outstanding balance, and issue a receipt if one hadn’t already been given.

In other words, cash application is a matching mechanism. It’s filing payments in the right places.

Cash application has always been a laborious process, but before the internet, it was simpler.

Now, there are so many sources and types of payments that without a good cash application system, your accounts receivable apartment could be drowning in a flood of payments without much detail and be stuck guessing where to apply them.

The common steps of cash application

Cash application usually goes like this:

  • Accounts receivable receives a check or electronic payment.
  • They or the system matches it to an account and/or specific invoices.
  • The accountant “applies” the cash by approving the automated suggestions or by manually batching the payments.
  • The review, adjustment, and approval process of the receipts is conducted.
  • The accountant or system officially posts the receipts & sends them out to clients.
  • The finished work is reviewed.

Systems are faster or slower depending on how efficiently they can do the above steps. Great systems remove most of the work for the accountants, and all that’s left is reviewing the suggestions & taking care of particularly complex invoices.

Why does cash application matter?

Because cash application fulfills to main components that are important for businesses:

  1. It frees up cash to be used for anything the business may need like expenses, investments, etc.
  2. It gives you critical information on who is paying you. This is important for knowing which products are selling best, etc.

If you don’t know which clients are the most profitable, how can you accurately determine who to target in your marketing efforts? Or if you run a service-based business and are behind on your cash application process, you could have clients who have stopped paying you but you’re still delivering service!

Without cash application, your business is swimming with blurry goggles.

A slow cash application process cuts both ways

It’s a pain for your customers too if your cash application is late. When funds aren’t withdrawn from their accounts in a timely fashion or they don’t receive a receipt, their accounting gets more difficult & their forecasting suffers as a result.

Common issues that slow down cash application

There are many ways your cash application process could be slowed down, but here are a few of the most common ones:

  • They consistently receive bulk electronic payments for multiple invoices. Unless you’re working from an account balance system and only sell a few services, not knowing how to split up a payment across invoices can be a real pain. This is very common in the B2B world because businesses often develop good working relationships with each other and work starts before payment is received. Then, once payment is received they have to figure out where to apply it.
  • The system you use for processing doesn’t have automatic matching. The best cash application systems standardize payments as much as possible by using order numbers and account numbers to match payments to accounts. Not having this functionality creates a lot more work for your accounting team.
  • You’re doing all of your cash application manually. This is an unsustainable and expensive way to grow your business. If you receive a lot of invoices, you need a modern cash application system.

5 signs you should improve your cash application system

If you’ve noticed any of these symptoms from your system or have had conversations with your accountants about these topics, it may be time to better your cash application process:

#1 Lots of cash laying around that hasn’t been applied.

#2 Lots of payments that haven’t been filed.

#3 Many customers asking for receipts.

#4 No way to get high-level reporting on your cash application efforts

#5 The customer service of your existing system is unavailable and not helpful.

These days, your best bet for improving your cash application system is to either buy new software or develop your own system. But unless you’re running a specific type of multi-million dollar business, you’ll probably have to pick up some outside software.

Here’s what to look for when shopping around:

What to look for when improving your cash application system:

Many cash application services will offer similar services, but their efficiency and ability to fit your business is what counts. Here’s what to look for:

  • A robust and efficient matching system. You want to be able to customize your matching to your specific needs. Great matching systems can match 90% or so of your payments and handle millions of transactions quickly.
  • You want a system that gets better over time. Modern cash application software can learn your customers’ banks & information over time to improve their matching. Once you do something once manually, the system should learn.
  • A system that can aggregate and import from any data sets you need.
  • A system with good dashboard reporting to help your AR department be more efficient and give executives useful high-level information. Ask your accountant(s) what they would like.
  • It should have strong user stratification and a perfect paper trail of what your users are doing. This helps you track down errors when they occur.
  • Make sure the software is flexible with bank files and formats.
  • Work with a provider that doesn’t neglect paper payments (assuming you still deal with them). It needs to be a complete solution.

What to look for in a cash application provider:

And apart from the system, here’s what to look for in a partner. This goes for any service you bring into your business, including things like merchant services & marketing partners.

Make sure they are or offer:

  • Scalability at cost.
  • Efficiency.
  • Are active and innovative. Is their business thriving?
  • Service guarantees. When can you expect to get them on the phone? Will they be there when you need them?

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And there you go! We hope this helps you understand the world of cash application. It’s simple in theory, but the complex nature of modern payments can make it feel overwhelming.

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