What is a credit note and how to create one
TL;DR, the essentials
- A credit note (or credit memo) is the correct way to cancel or reduce an invoice you have already issued. You never delete or edit a sent invoice, you issue a credit note that reverses it.
- It should be clearly labelled “Credit note”, carry a unique number distinct from your invoices, and reference the original invoice number and date.
- In the UK, HMRC expects a credit note to be issued within 14 days of the decrease in consideration, and it must show the VAT rate and amount being reversed.
- Since 2019 (amended Regulation 38), a supplier can only adjust output VAT once they have actually refunded the customer or written off the debt, issuing the note alone is not enough.
A price slipped through wrong on an invoice you have already sent, a customer returns half their order, or you agree a discount after the fact. In every one of these cases you cannot cross out or re-send the original invoice. The correct route is a credit note. Here is how to create one properly: what it is, when to issue it, what it must include, how to number it, and how the VAT adjustment works, with a worked example and the UK rules that apply in 2026.
What is a credit note, exactly?
A credit note is an accounting document that cancels or reduces all or part of an invoice you have already issued. It records a sum the seller owes back to the customer: instead of an amount to pay, it shows an amount to credit. A credit note can be full, when it cancels the whole invoice, or partial, when it corrects a single line, a quantity or a rate.
An invoice is wrong
A pricing error, a returned item, or a discount agreed after the original invoice was sent.
You issue a credit note
The credit note references the original invoice and reverses it, in full or in part.
The balance is settled
The customer deducts it, or you refund them, and the VAT is adjusted on both sides.
A credit note is a genuine accounting record, on the same footing as an invoice. Do not confuse it with a quote or a proforma invoice, which carry no accounting value. A credit note sits in your numbering, enters your books and changes your output VAT.
In one line
A credit note is an invoice in reverse: it does not ask for money, it gives it back, and it corrects the VAT already declared on the original invoice.
Why not just edit or delete the invoice?
Once an invoice has gone to the customer, you should not amend it, overwrite it or delete it. Editing a VAT invoice and re-sending it breaks your audit trail and can trigger queries during an HMRC compliance check. The rule of thumb from HMRC is clear: do not edit and resend an existing invoice. Instead, issue a credit note that references the original invoice number, then, if needed, raise a fresh invoice with a new sequential number.
The logic is about traceability. Your numbering has to stay continuous and gap-free, and every VAT adjustment must be traceable back to the supply it relates to. A credit note does exactly that: it documents the correction in the open, while leaving the original invoice untouched.
The habit to drop
“I’ll just resend the corrected invoice under the same number.” That is precisely what to avoid. Issue a credit note that reverses the wrong invoice, then a new invoice with a new number if the sale still stands.
When should you issue a credit note?
A credit note is called for whenever the value of an invoice you have already issued needs to drop or be cancelled. The most common cases are:
- An error on the original invoice: wrong amount, quantity, VAT rate or a missing discount. Reverse it with a credit note, then reissue a correct invoice.
- Returned goods: the customer sends back all or part of the order, and the credit note credits the returned items.
- Cancelled order: the sale falls through after the invoice was raised.
- A discount, rebate or price reduction agreed after the invoice was sent.
- Overcharge: you billed too much and need to refund the difference.
In the UK, HMRC expects the credit note to be issued within 14 days of the date the decrease in consideration occurs, that is, the date goods are returned, the price is agreed or the reduction takes effect, not when someone gets round to processing it. The common thread across every case is the same: there is always an original invoice to correct. A credit note never floats on its own.
Good habit
Note the reason for the credit clearly (return, pricing error, agreed discount). It belongs on the document and makes reconciliation, and any future audit, far easier.
What must a credit note include?
A credit note carries the same core details as a standard VAT invoice, plus a few of its own. Under UK VAT rules, HMRC expects the following particulars:
| Detail | Why it matters |
|---|---|
| “Credit note” | The nature of the document should be clearly stated |
| Unique credit note number | Sequential and distinct from your invoice numbering |
| Issue date | It determines the VAT period for the adjustment |
| Reference to the original invoice | The specific invoice number and date being credited |
| Supplier details | Name, address and VAT registration number |
| Customer details | Name and address matching the original invoice |
| Description | The goods or service being reversed or reduced |
| VAT rate and amount | Stated separately for each rate that applies |
| Net credit amount | The total credit excluding VAT |
Source: HMRC guidance and VAT Notice 700/45, indicative for July 2026. Rules and thresholds vary by country. If you are not registered for VAT (for example under a small-business threshold), you issue the credit note without VAT. Always confirm your local rules.
Do not skip this
A credit note that omits a mandatory particular, or that fails to reference the original invoice, can be treated as invalid. The original-invoice reference and the VAT breakdown are the two fields most often missed.
How do you number a credit note?
A credit note follows the same numbering discipline as your invoices: a sequential, continuous series with no gaps. Crucially, most tax authorities, HMRC included, expect the credit note number to be distinct from your sales invoice series. Mixing the two clutters the audit trail and can prompt questions at a compliance check.
Dedicated series
Open a separate sequence for credit notes with a distinct prefix, such as CN-2026-001, CN-2026-002.
Reference the invoice
Each credit note cites the number and date of the invoice it reverses, so the two can always be tied together.
Whichever convention you choose, the essentials are the same: no number missing, none duplicated, and a clear link back to the original invoice.
How does a credit note adjust the VAT?
A credit note does not only correct a net amount, it also adjusts the VAT already charged. The rate on the credit note must match the rate on the original invoice. For the supplier, the credit note reduces output VAT; for a VAT-registered customer, it reduces input VAT.
There is one UK subtlety worth knowing. Under the amended Regulation 38 (in force since 2019), a supplier may only adjust their output VAT once they have actually refunded the customer or written off the debt, issuing the credit note alone is no longer enough. The customer, however, must reduce their input VAT on receiving the credit note, regardless of when the refund lands. It is an asymmetrical rule by design.
The classic error to avoid
Issuing a net-only credit note with no VAT breakdown denies your registered customer the input-VAT correction and understates your own adjustment. The VAT must always appear, at the same rate as the original invoice.
Tired of rebuilding every credit note by hand?
Our comparison ranks the tools that generate the credit note straight from the invoice, with the VAT and numbering handled automatically.
A worked credit note example
Take a simple case. A business invoiced £2,000 net of goods at the standard 20% UK VAT rate, so £2,400 gross. The customer returns half the order, so you must credit the returned half, £1,000 net.
| Document | Net | VAT (20%) | Gross |
|---|---|---|---|
| Original invoice (INV-2026-045) | £2,000 | £400 | £2,400 |
| Credit note (CN-2026-012, 50% return) | £1,000 | £200 | £1,200 |
| Net actually owed by the customer | £1,000 | £200 | £1,200 |
The credit note references invoice INV-2026-045 (number and date), states the reason “goods returned”, and shows £1,000 net + £200 VAT = £1,200 gross. Once you refund the customer, you reduce your output VAT by £200 on the relevant return. The customer reduces their input VAT by the same £200. The real sale nets out at exactly £1,000 and £200 of VAT, no more and no less. The 20% rate here is the UK standard rate; use your own country’s rate.
Credit note, invoice, VAT: all linked, no re-keying
Good software ties the credit note to its invoice and reconciles the VAT on its own. See which ones in our selection.
Should you create credit notes by hand?
For a one-off credit, a well-filled template will do. But as soon as volume climbs, manual handling multiplies the risks: a missing “Credit note” label, no reference to the original invoice, a broken number sequence, VAT reversed at the wrong rate or adjusted before any refund. Each one weakens your books and can expose you at audit, and errors above £10,000 have to be disclosed separately to HMRC rather than fixed on the next return.
Invoicing software turns any invoice into a credit note in one click: it pulls the lines, the correct VAT rate, the reference to the original invoice and a continuous credit-note series, then reconciles the VAT at the right time. Under Making Tax Digital, those adjustments have to flow through MTD-compatible software anyway. A connected, compliant tool handles invoices, credit notes and the VAT trail without re-keying. Check the rules that apply in your country.
The next step
Ready to automate your credit notes? See our comparison of the best invoicing software 2026, or browse our invoicing hub to master everything about invoices.
Frequently asked questions
What is the difference between a credit note and an invoice?
An invoice asks the customer to pay a sum; a credit note gives value back, cancelling or reducing a sum already invoiced. A credit note always references the original invoice, is labelled “Credit note” and reduces the VAT on both sides, whereas an invoice creates the charge in the first place.
Can I just edit or delete an invoice instead of issuing a credit note?
No. HMRC’s guidance is not to edit and resend an issued invoice, especially a VAT invoice, because it breaks the audit trail. Issue a credit note that references the original invoice number, then raise a new invoice with a new sequential number if the corrected sale still stands.
How long do I have to issue a credit note in the UK?
HMRC expects a VAT credit note to be issued within 14 days of the date the decrease in consideration occurs, that is, when goods are returned, a price reduction is agreed or the threshold is met. The adjustment should fall in the VAT period in which that decrease happens.
How do I number a credit note?
Use a unique, sequential number in a series that is distinct from your sales invoices, for example CN-2026-001. Mixing credit notes into your invoice numbering clutters the audit trail. Each credit note should also cite the number and date of the invoice it reverses.
When can I reclaim the VAT on a credit note?
In the UK, under the amended Regulation 38, a supplier can only adjust output VAT once they have actually refunded the customer or written off the debt, not simply by issuing the credit note. The customer, however, must reduce their input VAT when they receive the credit note. Rules vary by country, so confirm your local treatment.