Have you ever received or sent a proforma invoice but didn’t understand exactly what they were used for? They can be a bit confusing. Proforma invoices are something that many companies send, and they are even more common in industries that rely heavily on physical shipping.
Not all companies need to use proforma invoices, but we’re going to outline exactly what a proforma invoice is and what situations they are best for — that way you can determine if it’s the right call for your business.
1. What is a proforma invoice?
A proforma invoice is a non-legally binding "pre" invoice that is used to establish the terms of an order before an actual purchase order is sent.
Pro forma is a Latin phrase meaning "as a matter of form". In other words, it’s a fancy way of saying "formality" or "in good faith". Companies use proforma invoices to send what is essentially an example invoice to a buyer. It looks like an actual invoice and has almost all the same details as a traditional invoice, but it does not mean the buyer is responsible for payment — nor does it mean the seller needs to ship the goods.
Here’s how a proforma typically works in a sales context:
- Proforma invoice is sent.
- Adjustments in pricing and amounts as needed.
- Future buyer signs the final proforma invoice.
- Seller sends over a legally binding purchase order.
- Buyer signs and enters into a legally binding "purchase contract".
They’re often used to give people an idea of what costs to expect when placing an order. It’s easiest to think of them in their most natural form: importing and exporting.
For example, a food distributor may ask a seafood provider for 1,500 lbs of white king crab. The seafood provider would then send over a proforma invoice detailing the costs and estimated duties associated with that. It’s understood that the final cost of the crab may change slightly depending on the taxes and duties that accrue after the proforma invoice is sent.
In this example, the food distributor may decide to only get 1,250 lbs after receiving the proforma invoice, so the crab provider adjusts the proforma to reflect those changes. Then the distributor agrees and signs the proforma invoice. At that point, the seller will now issue an official purchase order, which initiates the actual process of moving the product and shipping it to the buyer. Then, assuming the crab comes in on time and in the right condition, the buyer will pay the invoice upon receiving the crab.
This is just one example, and these steps and processes can change depending on the relationship of the business. For example, some companies may require a buyer to submit all or a portion of the purchase order invoice prior to shipping initiation, or a buyer may have a recurring order based on weight and understand that the proforma invoices will change a bit depending on the final costs that get attached to the shipment.
2. How do you make a proforma invoice?
There is no perfect system, but you should try to make it as close to your future commercial invoice as possible. The idea is to reduce as much friction as possible between the two.
Ideally both your proforma and commercial invoices will be formatted and designed similarly, and all you have to do to make a commercial invoice proforma is literally place the phrase proforma somewhere on the invoice and make sure there isn’t any legal language that should be reserved for the commercial invoice. It’s really that simple.
Here’s a crash list of what you can include, but remember this depends on your industry:
- The seller’s contact details, so company name, address, phone, etc.
- Same for the buyer.
- A brief but detailed description of what is being purchased along with any other relevant product information like SKUs or quantities.
- Invoice number.
- Any legal terms the buyer should be aware of.
- If shipping physical products, you may need estimated delivery dates, etc.
- If shipping internationally, you may need the port information, and shipping channel (sea, rail, etc.).
Again, there’s no perfect system here! Just make them close to your commercial invoices, and you’ll be fine.
3. What are the best practices for creating a proforma invoice?
Here are a few other best practices to keep in mind when creating proforma invoices.
- Make sure you have the date included. Prices of goods and commodities can change often.
- Don’t mark it as accounts payable if you’re a buyer. You haven’t made a purchase at this point yet.
- Don’t mark them as accounts receivable if you’re the seller. You haven’t made a sale yet.
4. Is a proforma invoice legally binding?
No. These are just used to establish the terms of an order before entering a legally binding purchase contract.
5. Are proforma invoices the same as traditional invoices?
If we are talking about commercial invoices, then no. Proforma invoices are not legally binding and are not counted as official sales in your accounting department.
Traditional invoices confirm a purchase or sale, whereas proforma invoices are just a way to establish the terms of the sale.
6. Are proforma invoices the same as quotes or quotations?
Yes, in practice. Proforma invoices are just a more detailed version of a quote since they typically include more information and are in a format close to your traditional invoice.
7. What about proforma invoices vs. estimates?
Estimates are just another way to say quotes or quotations, so yes — they fulfill a similar purpose.
8. Are purchase orders and proforma invoices the same thing?
No. Purchase orders are an official notice of an order and are the step that follows a proforma invoice. Once the purchase order is accepted, then a legally binding contract exists between the buyer and the seller.
9. When should you use a proforma invoice?
Proformas are a great tool for many businesses. If there is any variability in what price you quote and the final cost of your product or service, then proforma invoices would be useful to you.
Proforma invoices are also good for:
- Helping buyers open a line of credit for a specific purchase. Having a proforma helps show a lender what a buyer will spend a loan on.
- Getting import permits. If you need import permits, then proforma invoices help you demonstrate why you need one to the government.
- Paying customs duties. Some customs offices in places like the U.S. accept proformas made by the importer to let goods at customs pass through when a commercial invoice isn’t an option. Then the importer must post a bond and deliver a commercial invoice within 120 days.
- Formalizing sales efforts without interfering with accounting. Since proformas aren’t an actual sale, accounts payable and receivables don’t account for them, but that doesn’t mean the data they provide isn’t useful. You could develop an average proforma close rate and build that into your quarterly estimates, for example.
- Reducing confusion and increasing transparency. Always a good thing when dealing with customers.
If any of those sound useful to you, then the sooner you can start using them the better! Include proforma invoices as an official touchpoint in your sales process and deliver that update across your organization.
Cut costs and provide a better payment experience
Proforma invoices are another example of tools smart business owners can use to reduce unnecessary conversations, improve sales, and ultimately increase revenues.
Invoicing is an integral part of merchant services, but there are so many more ways you can cut costs while providing a better payment experience to your customers, and that’s exactly what Tidal Commerce’s merchant services do.
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