How to Create a Credit Note in Xero

Credit notes are an essential part of bookkeeping and customer service. They are used when you need to cancel or reduce the amount of a previously issued invoice — for example, if a customer was overcharged, goods were returned, or a discount needs to be applied after invoicing. In Xero, creating a credit note is a straightforward process that helps you keep your accounts accurate and your customer relationships professional.

This article will walk you through how to create a credit note in Xero, how to apply it to an invoice, and how to record a refund if money has already been returned.

When should you issue a credit note?

A credit note should be issued when:

• You have overcharged a customer

• An invoice was issued in error

• Goods were returned or services were not delivered

• A post-sale discount was agreed

• An invoice needs to be partially or fully cancelled

Rather than deleting or editing a previously issued invoice, Xero encourages users to issue a credit note to maintain a clear audit trail. This is good practice and often required for VAT reporting and financial compliance.

How to create a credit note in Xero

To create a credit note in Xero, follow these steps:

1. Log into your Xero account and go to the Business menu
   Click on “Invoices” if you are issuing a credit note to a sales invoice or “Bills to pay” if you are crediting a purchase.

2. Find the original invoice or bill
   Search for the invoice you want to credit. Open it, then click “Credit Note” or “Add Credit Note” at the top of the invoice screen.

3. Enter the details
   Xero will open a new credit note with some information copied from the original invoice. You can then update the quantities, amounts and description as needed. Make sure the total reflects the correct amount being credited.

You can issue a full credit (to cancel the invoice entirely) or a partial credit (to reduce the amount owed).

1. Save and approve the credit note
   Once you’ve filled in the details, click “Approve.” This creates the credit note and records it in your sales ledger.

Applying the credit note to an invoice

After approval, you can allocate the credit note against the original invoice or leave it open to apply to future invoices.

To apply it:

• Go to the original invoice

• Click “Credit Note” under the “Allocate Credit” section

• Enter the amount to be allocated and confirm

This reduces the amount owed on the invoice and updates the customer’s balance accordingly.

Recording a refund

If you have already refunded the customer and want to reflect this in Xero:

1. Open the credit note

2. Click “Add Refund”

3. Enter the bank account used for the refund, date of payment and reference

4. Click “Save”

This posts the transaction to your bank account and ensures your balances match reality.

Best practices

• Always include a clear description of why the credit note is being issued. This avoids confusion later, especially during audits or reviews

• Credit notes should never be used to hide errors. Keep a clear link between the original invoice and the credit issued

• If VAT is involved, ensure the credit note includes VAT correctly and is included in the appropriate VAT return

Final thoughts

Creating credit notes in Xero is quick and ensures your accounts reflect the real-world activity of your business. Rather than editing or deleting invoices, issuing credit notes maintains a transparent and accurate financial trail.

Whether you’re correcting a mistake, issuing a refund or applying a discount after sale, using credit notes properly ensures your financial records remain clean and compliant.