Invoice Processing: Matching, Exceptions, and Credit Notes

How an Invoice Moves Through Accounts Payable (AP)

Invoice processing is the controlled path from invoice receipt to payment authorization. AP’s job is to ensure the organization pays only for what was ordered and received (or legitimately delivered as a service), at the agreed price and terms, and with correct tax treatment. The core control is matching: comparing the invoice to internal records (purchase order and, when applicable, receipt evidence) before approval.

Typical AP flow (from receipt to approval)

• Invoice receipt: via email, portal, EDI, or paper scan; invoice is captured in the AP system.
• Indexing: key fields are recorded (supplier, invoice number/date, amount, currency, PO reference, tax amounts).
• Pre-validations: duplicate check, supplier master check, tax compliance checks, and basic arithmetic checks.
• Matching: 2-way or 3-way match (and tolerances) determine whether the invoice can be auto-approved or must be routed as an exception.
• Exception workflow: discrepancies are assigned to the right owner (buyer, requester, receiving, contract owner, supplier) with a defined resolution path.
• Approval: once matched and compliant, invoice is approved for posting and scheduled for payment per terms.

Matching Types: 2-Way vs 3-Way

2-way match (PO + Invoice)

Definition: AP compares the supplier invoice to the purchase order (PO). The invoice is approved if it aligns with PO pricing, quantities (or agreed billing basis), and terms within defined tolerances.

When 2-way match is appropriate:

• Services where receipt is evidenced by acceptance, timesheets, milestones, or service entry approvals rather than physical receiving.
• Low-risk spend with strong supplier performance and stable pricing.
• Recurring charges tied to a PO (e.g., monthly maintenance) where the PO defines the billing schedule and amount.
• Pre-agreed fixed-fee deliverables where the PO value is the primary control and acceptance is handled via service approval.

Key control point: because there is no receipt document in the match, the organization must rely on service approval (e.g., a service entry sheet, milestone sign-off, or requester confirmation) to prevent paying for undelivered work.

3-way match (PO + GRN + Invoice)

Definition: AP compares the invoice to both the PO and the goods receipt record (GRN/receipt). The invoice is approved if the invoiced items, quantities, and prices align with what was ordered and what was received.

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When 3-way match is appropriate:

• Physical goods where quantities received can differ from quantities ordered.
• Higher-value or higher-risk purchases where tighter control is needed.
• Inventory and stock items where receipt accuracy affects financial statements.
• Regulated or audited environments requiring strong evidence of receipt before payment.

Key control point: the receipt record becomes the “payable quantity.” Many organizations pay based on received quantity (not ordered quantity) to avoid paying for backordered or short-shipped goods.

Choosing the right match: a practical decision guide

Invoice Anatomy: What AP Must Capture and Verify

Understanding invoice structure helps AP validate completeness, route exceptions correctly, and prevent fraud or compliance issues.

1) Invoice header fields

• Invoice number: must be unique per supplier; used for duplicate detection.
• Invoice date: affects tax period, payment terms, and due date calculations.
• Supplier legal name and address: must match vendor master and tax registration.
• Remit-to details: where payment is sent; may differ from supplier address.
• Currency: must match PO currency (or approved variation).
• Payment terms: should align with PO/contract; deviations require review.

2) References and supporting information

• PO reference: PO number (and line references if provided). Missing or incorrect PO is a common exception.
• Delivery note / packing slip reference: helpful for goods invoices, especially when multiple receipts exist.
• Project/cost center references: sometimes included; AP should not rely on supplier-provided coding unless policy allows.

3) Line items

• Description: should be consistent with PO line description (not necessarily identical, but clearly related).
• Quantity and unit of measure (UoM): must align with PO and receipt records; UoM mismatches can cause false variances.
• Unit price and line amount: must match PO price (or approved change) within tolerance.
• Discounts: early payment discounts or line discounts should be consistent with PO/contract.

4) Taxes and totals

• Tax type and rate: VAT/GST/sales tax as applicable; must be compliant for the jurisdiction and transaction type.
• Tax amount: verify calculation (rate × taxable base) and rounding rules.
• Subtotal, tax total, grand total: check arithmetic and that totals match sum of lines.

5) Bank and payment details

• Bank account/IBAN and beneficiary name: must match vendor master records; changes should trigger a controlled verification process.
• SWIFT/BIC (international): validate format and consistency with vendor master.

Core Validations Before Matching

Duplicate invoice checks

Duplicate payments often happen when suppliers resend invoices or when AP receives the same invoice through multiple channels. Common duplicate detection rules include:

• Exact match: same supplier + invoice number.
• Near match: same supplier + same invoice date + same amount (useful when invoice numbers vary by formatting).
• Credit note linkage: ensure credits are not posted twice and are applied to the correct original invoice.

Practical step-by-step:

• Search AP system for supplier + invoice number.
• If not found, search supplier + amount + date range (e.g., ±30 days).
• If potential duplicate exists, place invoice on hold and request clarification from supplier (e.g., “Is this a reissue or a new invoice?”).

Tax compliance checks (high-level controls)

• Supplier tax registration: confirm supplier tax ID is present where required.
• Correct tax treatment: domestic vs export, reverse charge, exempt items, place-of-supply rules (as applicable).
• Mandatory invoice elements: some jurisdictions require specific wording or fields; missing elements can make tax non-recoverable.

Vendor master accuracy checks

• Supplier identity: invoice supplier must match the vendor record used on the PO (or an approved related entity).
• Remit-to and bank details: if invoice shows different bank details than vendor master, treat as an exception and follow the organization’s change-verification process.
• Payment terms: ensure terms on invoice do not override agreed terms without approval.

How Matching Works in Practice

2-way match: step-by-step

• Step 1: Confirm PO reference on the invoice and retrieve the PO.
• Step 2: Compare invoice lines to PO lines (item/service, UoM, quantity basis, unit price).
• Step 3: Apply tolerances (e.g., price variance allowed up to a small percentage or amount; quantity variance rules for services may differ).
• Step 4: Confirm service approval if required (timesheet approved, milestone accepted, or service entry completed).
• Step 5: Validate taxes against expected tax codes and rates.
• Step 6: Approve or route exception based on variance type.

3-way match: step-by-step

• Step 1: Confirm PO reference and retrieve PO lines.
• Step 2: Retrieve receipt records and determine received quantities by PO line.
• Step 3: Compare invoice quantity to received quantity (not just ordered quantity).
• Step 4: Compare invoice price to PO price and apply price tolerances.
• Step 5: Validate taxes and totals.
• Step 6: Approve if matched; otherwise route to exception workflow.

Common tolerance models (examples)

Exception Handling: Workflows for Common Problems

Exception handling should be predictable: identify the variance, assign ownership, set a target resolution time, and document the outcome. Below are practical workflows for frequent exceptions.

1) Price variance (invoice price ≠ PO price)

Typical causes: supplier price increase not reflected on PO, wrong price tier, incorrect UoM conversion, invoice includes unagreed surcharges.

Workflow:

• AP flags variance at line level (invoice unit price vs PO unit price).
• Check for approved PO change (amendment) or contract clause allowing indexation.
• If PO is wrong: buyer updates PO (or issues a formal change) and communicates to AP.
• If invoice is wrong: request a corrected invoice or a credit note (see credit note section).
• Post/approve only after the system match is clean or an authorized override is documented.

Example: PO unit price $10.00, invoice shows $10.50. If tolerance is 1% and variance is 5%, invoice routes to buyer. Buyer confirms no approved increase; supplier must issue a credit note for the difference or reissue the invoice.

2) Quantity variance (invoice quantity ≠ received quantity)

Typical causes: partial delivery, backorder, receiving not posted, supplier invoiced ordered quantity instead of delivered quantity.

Workflow (3-way match):

• AP compares invoice qty to received qty for each PO line.
• If receipt is missing but goods were received: receiving team posts/corrects the receipt record.
• If goods were not received: hold invoice; ask supplier to invoice only delivered quantity or issue a credit note for undelivered items.
• If over-receipt is not allowed: investigate potential receiving error or unauthorized delivery.

Example: PO 100 units, received 80, invoice 100. AP holds invoice for 20 units. Supplier either reissues invoice for 80 or issues a credit note for 20 units.

3) Missing PO (invoice has no PO reference)

Typical causes: supplier not instructed to quote PO, emergency purchase, subscription renewal billed without PO, supplier billed the wrong entity.

Workflow:

• AP attempts to identify the owner using supplier name, description, requester email, ship-to, or cost center hints.
• If a valid PO exists: request supplier to reissue invoice with correct PO number (preferred for clean audit trail) or add PO reference in the system per policy.
• If no PO exists: route to the responsible manager/buyer for a non-PO invoice approval process (often includes justification and budget confirmation).
• If invoice cannot be validated: reject and request corrected documentation.

Control tip: define a rule such as “no PO, no pay” for categories where it is feasible, and maintain an exception path for legitimate cases (utilities, statutory fees, etc.).

4) Unapproved service (services billed but not accepted)

Typical causes: supplier bills ahead of milestone acceptance, missing timesheet approval, scope dispute.

Workflow (2-way match + service approval):

• AP routes invoice to service owner/requester for confirmation of delivery/acceptance.
• If accepted: service owner approves service entry/milestone; AP proceeds.
• If not accepted: invoice is disputed; request corrected invoice (e.g., reduced scope) or ask supplier to reissue after acceptance.
• Document dispute reason and expected resolution date.

Example: Supplier invoices “Phase 2 completion” but project manager confirms Phase 2 is not signed off. AP places invoice on hold and requests supplier to invoice only completed milestones or wait until acceptance.

5) Freight differences (freight/handling not as expected)

Typical causes: freight billed separately though it should be included, wrong Incoterms/terms, fuel surcharge added, multiple shipments.

Workflow:

• Check PO terms: is freight a separate line? Is there a cap or agreed rate?
• Validate supporting documents: carrier invoice, bill of lading reference, shipment count.
• If freight is allowed but amount differs: route to buyer/logistics for approval or dispute.
• If freight is not allowed: request corrected invoice removing freight or request a credit note for the freight charge.

Debit Notes and Credit Notes: Correcting the Payable

When an invoice is incorrect or when goods/services are returned or adjusted, the payable must be corrected without breaking the audit trail. This is typically done via credit notes (issued by the supplier) or debit notes (raised by the buyer in some regions/practices).

Credit note (supplier-issued)

What it is: a document that reduces the amount payable to the supplier. It references the original invoice and states the amount being credited (often with tax breakdown).

Common reasons:

• Overbilling (price or quantity)
• Returned goods or damaged items
• Agreed discount applied after invoicing
• Incorrect tax charged

Example:

Original invoice INV-1045: 100 units @ $10.50 = $1,050.00 + tax 10% = $1,155.00  PO price should be $10.00.  Supplier issues credit note CN-220: (100 x $0.50) = $50.00 + tax 10% = $55.00  Net payable becomes $1,100.00.

Debit note (buyer-issued, where applicable)

What it is: a document from the buyer stating that the supplier’s invoice will be reduced (or that the supplier owes an amount). In many setups, the supplier still needs to issue a corresponding credit note for tax and accounting alignment, depending on local rules.

Common reasons:

• Short delivery confirmed and supplier agrees to reduce charge
• Quality claims and agreed deductions
• Pricing disputes where deduction is contractually permitted

Operational note: clarify in policy whether AP can post debit notes directly, or whether a supplier credit note is mandatory for tax compliance.

When to Request a Corrected Invoice vs a Credit Note

Request a corrected (reissued) invoice when:

• Key legal fields are wrong (supplier legal entity, tax ID, invoice number/date rules, mandatory tax wording).
• PO reference is missing and your policy requires it on the invoice for audit.
• Tax treatment is fundamentally incorrect and must be reissued to be compliant.
• Bank/remit-to details are incorrect (do not “edit” invoices internally; require supplier correction and follow verification controls).

Request a credit note when:

• The original invoice was valid but an adjustment is needed (price correction, returns, partial acceptance).
• Only part of the invoice is disputed and the rest can be paid; credit note can address the disputed portion.
• Post-invoice discounts are agreed (rebates, goodwill credits).

Practical Templates: What to Ask for in an Exception Email

Price variance request (to supplier)

Please confirm the unit price on invoice INV-____ for PO ____ line ____. Our PO price is ____. If the invoice is incorrect, please issue a credit note for the difference or reissue the invoice with the correct price. If there is an approved price change, please provide the approval reference/date.

Missing PO request (to internal owner)

We received supplier invoice INV-____ from ____ with no PO reference. Please provide the correct PO number or confirm whether this should follow the non-PO approval process. Include confirmation of receipt/acceptance and the correct cost coding.

Quantity variance request (to receiving/supplier)

Invoice INV-____ bills quantity ____, but received quantity posted is ____. Please confirm whether (a) receipt needs to be posted/corrected, or (b) supplier should reissue invoice for received quantity / issue a credit note for the difference.