I made a prepayment of $100 to a vendor. The invoice I later received from the vendor was $70. The vendor then sent me a refund for the difference between the prepayment amount and the invoice amount (that is $30).
1) How can I treat this refund from the vendor in Oracle Payables?
2) Is the refund going to be a check sent to me?

Lets do it step by step.

You enter prepayment of $100

Debit: Prepayment $100
Credit: AP $100

You pay it via check

Debit: AP $100
Credit: Cash $100

An invoice is received. You enter invoice for $70

Debit: Expense $70
Credit: AP $70

You pay the invoice via check

Debit: AP $70
Credit: Cash $70

You have $30 credit that you can use on future invoices.
But this vendor sent you a check.

In order to record the refund enter a debit memo in the system. In AP refunds can be recorded against memos. (It is better to do it in AP rather than AR so that suppliers' record keep up to date contrary to what I said earlier)

Debit: Expense -$30
Credit: AP -$30

Pay the debit memo using Refund method. This is to tell AP that you have received the check.

Debit: AP -$30
Credit: Cash -$30

We still have $30 prepayment outstanding. Following entries must disappear from the system:

Prepayment Entries:

Debit: Prepayment $30
Credit: AP $30

Payment of Prepayment Entries:

Debit: AP $30
Credit: Cash $30

Net: (This net result should be retired)

Debit: Prepayment $30
Credit: Cash $30

Enter a (dummy) standard invoice. In the description enter that you are retiring a prepayment.

Debit: Cash $30
Credit: AP $30

Apply the remaining prepayment to this invoice.

Debit: AP $30
Credit: Prepayment $30

Net off effect of the above two:

Debit: Cash $30
Credit: Prepayment $30

Hence the affect of $30 prepayment entry and its payment via check has disappeared. In other words we have retired the prepayment using a dummy invoice.

Hasan, do you agree with the following, as I find the above steps very long :
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Where the Prepayment is greater then the invoice amount, process the supplier's refund in Oracle Payables as:
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1) If the supplier account has a credit balance, apply the refund against any combination of debit and credit items on the account.
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2) If the supplier account does not have a credit balance, first raise a Debit Memo and then apply the refund against the debit Memo.

If the supplier sends you a check to return your prepayment,

1) You enter a debit memo and enter a refund type payment against the debit memo.

This records the incoming check but you still need to retire the prepayment

2) To retire the prepayment you enter an invoice. You enter cash account in the invoice line. Apply the prepayment to this invoice. For the details see my original post above.

Hasan,
The refund check is not related to the whole prepayment, it relates only to the difference between the (initial) prepayment amount and the actual invoice amount we subsequently received.
Are you also referring to the difference or are you referring to the whole prepayment, in your posts above?

I am also referring to the difference. We processed $30 refund check against a debit memo and we have $30 prepayment outstanding in the system that must be retired.