How (and when) to use a proforma invoice

How (and when) to use a proforma invoice

Nearly all kinds of businesses deal with invoices.

An invoice is a formal document sent by a seller to a buyer that lists all the details of the sales transaction and the goods or services involved.

But there are some situations where a seller might want to send an invoice as a projection of costs involved in the upcoming sales agreement. 

This is where a proforma invoice comes in. Proforma invoices are a representation of future transactions and therefore do not represent an official fiscal receipt.

In this article, we’ll help you understand what a proforma invoice is, when to use it, and how to create one for your own business.

Top Tip: Before we dive into proforma invoices, it’s important to understand what a standard invoice template looks like, what information must be included in it and how to make sure you get paid on time to protect your cash flow. To learn more, read our complete guide to how to raise an invoice and get paid 💸

Table of contents

What is a proforma invoice?

A proforma invoice is a preliminary sales document issued by a seller to a buyer before the goods or services are produced or delivered.

“Proforma” is a latin term that roughly translates to “for form” or “as a matter of form”. These financial reports are used as hypothetical projections, allowing business owners to make decisions around assumptions that could impact cash flow.

For example, consider that you’re the business owner of a robot vacuum cleaning company, and you receive an order from Spain for a shipment of 100,000 units.

Even before you’ve started procuring raw material or hiring the required workforce, you can send a proforma invoice to your international client as a proposed transaction.

This helps you provide your customer with the expected details of the final transaction in a format that can be altered if necessary.

Note: A proforma invoice is not a legally binding document, and cannot be used for accounting purposes.

The literal definition of proforma is “as a matter of form.” This means that even though a proforma invoice has no fiscal value, it still exists for the sake of formality.

Here are some advantages of a proforma invoice:

  • It helps the customer know what to expect from the purchase.
  • It’s a negotiating tool between you and your customer.
  • It works as a declaration of the value of goods for customs purposes, ensuring a smooth delivery process.
  • It’s a good replacement for a commercial invoice if you don’t have the complete details of the sale.

Can payment be made on a proforma invoice?

As proforma invoices are not legal documents, your customers and clients cannot make payment on them. Proforma invoices are hypothetical, and should be considered draft versions of the final invoice you plan to raise.

For you and your customer, this means:

  • Customers and clients are not legally required to pay any amount on a proforma invoice
  • They can’t be used to reclaim VAT
  • Any amounts given on your proforma invoices won’t be included on financial reports

In order to accept payments, you must raise and issue a full invoice as you would any product or service. Proforma invoices do not include invoice numbers or labels, and so do not meet the requirements of a standard sales invoice.

By issuing a standard invoice, the payment will be recorded within your accounting reports (or software) and on your financial statements. However, proforma invoices do not appear within any financial reports, thus payment cannot be made on them.

Can a proforma invoice be cancelled?

Again, as it’s not a legal document, it doesn’t need cancelling or processing in the same way as a standard sales invoice. It won’t be recorded in your financial statements or accounting software, which means it does not need processing after it’s issued.

What is the difference between a proforma invoice and a commercial invoice?

Proforma invoices work like a price quotation but are prepared in an invoice form. It differs from a quotation because while it is not an official invoice, it is still a binding agreement even though the terms and conditions may change. Quotations have no legal justification. 

Proforma invoices are used to create a sale and are shared with prospective customers who have either placed an order or requested a formal type of quotation. This helps both you and your customer gauge projected financial results including net income from this deal in the making so that you can update your cash flow forecast and balance sheets (you can learn more about both of these accounting principles in our guide to accounting for startups).

To be able to send a proforma invoice, you don’t necessarily have to begin the production of goods.

Commercial invoices, on the other hand, are prepared after a sale takes place and act as the true invoice.

It is the final bill sent by a seller to a buyer, mentioning that they have completed the production and delivery of the order.

Commercial invoices are mostly used in import and export situations. Governments may also use them to determine the true value of goods and to assess whether customs duties have been paid or not.

Note: The content of a proforma invoice and a commercial invoice is almost identical to each other, but the usage of each invoice is different.

Top Tip: Wondering what the difference is between purchase orders and proforma invoices? These two documents are incredibly similar, yet differ in one meaningful way. A purchase order (PO) is issued by the buyer to the seller and outlines the client’s expectations in terms of the product or service they plan to buy, whereas a proforma invoice is issued by the seller to the buyer. To learn more about purchase orders and how they work, read our guide to the difference between purchase orders and invoices💡

When to use a proforma invoice

A proforma invoice is more of a “good faith agreement” than a payment demand. It helps both the seller and the buyer get on the same page about costs from the get-go.

These invoices are used to provide a general picture of the final invoice and can be adjusted at a later stage in case there’s a change in cost during the manufacturing process.

For instance, a supplier may end up asking for more money if there is an unexpected increase in labour or procurement costs.

Proforma invoices are most commonly used for international transactions. 

In fact, a proforma invoice may be required by some countries as part of their import licensing procedures, since it includes buyer information, weight and size of consignment, delivery fees, and other details.

Some countries also use commercial invoices to control imports. Make sure you always prepare invoices according to the client’s country policies.

Proforma invoices can also be used to open letters of credit for importers. Plus, these invoices look similar to a commercial invoice, which most traders are already familiar with.

Once you’ve held your side of the bargain and prepared the final order for your client, you can convert your proforma invoice into a final invoice, and then issue it for payment purposes. 

Top Tip: No matter what type of invoice you’re preparing, in order to keep things organised and ensure that you get paid on time, you need to have a proper invoicing process in place. This includes setting an invoice schedule, maintaining accurate records, regularly following up with clients and automating your invoicing process. To learn more, read our guide to how to streamline your invoice process ⚡️

Step-by-step: How to create a proforma invoice

There is no single way of creating or designing a proforma invoice. In fact, creating a proforma invoice is quite similar to creating a commercial invoice.

However, there are some specifics or best practices you should follow to avoid getting into legal trouble with any country.

Top Tip: The best way to avoid getting into financial trouble is by hiring an accountant or a bookkeeper that will help you manage your small business finances. An accountant is trained in accounting practices and principles and can act as a consultant to help steer your business in the right direction. And a bookkeeper handles your business’s day to day financial data to free up your valuable time. To learn more about how one or both of these key roles can help you navigate proforma financial statements, read our guide to the difference between an accountant and a bookkeeper 🙌 

Here’s what a proforma document should ideally include:

  • The term “proforma”
  • Invoice date
  • Seller information
  • Buyer information
  • Shipment information
  • Descriptions of goods to be sold
  • Terms and conditions

Follow this step-by-step guide to create a proforma invoice for your own business.

To outline this step-by-step process in detail, we’ll use a fictional example of a textile company called “Luxury Fabrics” (seller) and a furniture company called “Falcon Furniture” (buyer).

Step 1: Fill out the basics

The first step is to jot down all the essential information related to both the seller, buyer and shipment.

Seller information should ideally include your company name, logo and contact information, such as your mailing address, phone number, email address, website, and country of origin.

Since most invoices are created on the official company letterhead, the seller information may already be entered. Still, make sure everything is up-to-date.

Buyer information also includes their company name, contact number, email address, mailing address, city, country, and other details.

Additionally, make sure you add the words “proforma Invoice” at the top of your document.

You could also include some important dates in your invoices, including invoice request date, invoice creation date, and invoice expiration date.

You don’t necessarily need to include an invoice number in your proforma invoice, as it cannot be used for official accounting purposes.

Another essential item to include in your invoice is shipment information.

This includes the number of items you’re sending, total weight, and the mode of transportation you’re using to ship the items (by air, by rail, or by water).

Here’s what the upper section of your invoice should look like:

Template of a pro forma invoice

Step 2: List all product and pricing details

The next step is to list down all the information related to the goods you’re selling.

This part is the crux of your proforma invoice. Here, you’ll include the details for each and every item you’re shipping, including name, quantity, unit price and the grand total.

This information should ideally be listed in the form of a table, so it can easily be read by all parties involved in the transaction.

It’s good practice to list each item separately, as well as mention a brief description next to the item name or ID.

Lastly, make sure your due total is mentioned in a clear and bold font so your customer knows what to expect from the purchase.

Going back to our example, consider that Luxury Fabrics has received an order of sofa cloth from Falcon Furniture.

Here’s what the product and pricing section of their proforma invoice would look like:

Sr. # Product ID Product description Quantity Unit price(£) Total(£)
1 WF-2550 Suede sofa fabric, gray colour, full roll 250 167.99 41,997.5
2 WC-1020 Knitted sofa fabric, black colour, full roll 150 207.50 31,125
3 WK-1250 100% polyester sofa fabric, beige colour, full roll 300 125.00 37,500

You can also mention any discount offers in this section. 

Note: While creating your proforma invoice, check all relevant laws of the countries involved, including applicable sales taxes, and include them in the invoice. 

Top Tip: Because proforma invoices are not considered commercial invoices or VAT invoices, you cannot use them to reclaim VAT if your business is VAT registered. Therefore, you are not required by law to include VAT information on your proforma invoice. That said, you do want your proforma invoice to act as a draft for your final invoice, so including this information from the get-go will make crafting your final invoice easier and more accurate. To learn more about adding VAT onto invoices, read our guide to what information you must include on your VAT invoice

Step 3: State your financial and shipping conditions

Your proforma invoice should also include any terms and conditions, along with the reason for sending goods to another country.

This information usually goes at the end of your proforma invoice.

In case you’re in the middle of a temporary trade, where your exported items will be returning back to the country, mention “temporarily exported” on them to avoid any hassle in the shipment process.

Also if your items are subject to specific terms and conditions, you can mention these here as well.

Step 4: Sign and stamp your proforma invoice

The last step of creating your proforma invoice is to sign and stamp it.

Make sure you include your full name and signature, along with your official company stamp.

Wrapping up

If your company is involved in international buying or selling, it’s important to be aware of proforma invoices and if they are applicable to your business.

Knowing the difference can help you develop better relationships with the businesses you deal with, avoid any issues with country-specific import or export laws, and ensure a smooth delivery process.

Enjoy FREE easy invoicing with Tide – it makes business a breeze

Don’t waste time on financial admin. You can quickly send customisable invoices straight to your clients directly through the Tide app. Try it out for yourself, and open a free business business account today.

Photo by Bongkarn Thanyakij, published on Pexels

Adelaide Carleton

Adelaide Carleton

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