What is an Advance Payment

An advance payment is a type of payment that is made ahead of its normal schedule, such as paying for a good or service before you actually receive the good or service. Advance payments are sometimes required by sellers as protection against nonpayment, or to cover the seller's out-of-pocket costs for supplying the service or product.

Advance payments can refer to one of two situations. First, advance payments can apply to any sum of money provided prior to the contractually agreed-upon due date. Second, advance payments can refer to any required payment that is due prior to the receipt of the requested goods or services. Advance payment can be contrasted with a deferred payment (or payment in arrears), where services or goods are delivered first and then paid for later - for example, an employee who is paid at the end of each month for that month's work.

BREAKING DOWN Advance Payment

Some everyday examples of advance payments are prepaid cellphones, as they require payment for the services that will be used by the customer in the future. Advance payment of this nature is required, as the service will not otherwise be provided.

Another example applies to those eligible U.S. taxpayers who received advance payments through the Premium Tax Credit, offered as part of the Affordable Care Act. In this situation, the financial assistance due to the taxpayer is provided to the selected insurer in advance of the actual due date for the credit.

Voluntary advance payment, or prepaying, can apply to any debt or obligation that is paid prior to it being required, such as making payments on upcoming rent or utilities before they are contractually due.

One common instance of an advance payment is for subscription services such as magazines, where an annual payment is made up front and then monthly installments are delivered afterward.

The interest rate and tax environment of a given jurisdiction will often play a role in whether or not individual or firms prefer to make their payments in advance.

Advance Payments to Suppliers

In the corporate world, companies often have to make advance payments to suppliers when their orders are large enough to be potentially burdensome to the producer, should the buyer decide to back out of the deal before delivery. This can assist producers who do not have enough capital to buy the materials needed to fulfill a large order, as they can use part of the advance payment to pay for the product they will be creating. It can also be used as an assurance that a certain amount of revenue will be brought in by producing the large order.

If a corporation is required to make an advance payment, it is recorded as a prepaid expense on the balance sheet under the accrual accounting method.

Advance Payment Guarantees

An advance payment guarantee serves as a form of insurance, assuring the buyer that, should the seller fail to meet the agreed-upon obligation of good or services, the advance payment amount will be refunded to the buyer. This protection allows the buyer to consider a contract void if the seller fails to perform, reaffirming the buyer's rights to the initial funds paid.