What is Accrued Expense
An accrued expense is a type of expense that is reported on the ledger before it is paid. Accrued expense is recorded in the accounting period in which it is incurred. Since accrued expenses reflect a company’s duty to make potential cash payments, they are recorded as current liabilities on a balance sheet. Accrued expenses are also known as accrued liabilities.
Expenses are recorded when they are incurred, not when they are charged, according to the accrual system of accounting.
Example of Accrued Expense:
- Utilities were used during the month, but an invoice was not issued until the end of the year.
- Wages that have been accrued but payments have yet to be paid to workers.
- Services and products have been consumed, but no invoice has been issued.
- When a business orders goods from a supplier but has not yet received an invoice for the order, this is an example of an accrued expense. Such types of unpaid costs include interest payments, guarantees for goods or services received, and taxes; all of which have been paid or collected but for which no invoices or payments have been received.
Accrued Expense Vs Prepaid Expense
Prepaid expenses are the opposite of accrued expenses. Payments received in advance for goods and services that are intended to be delivered or used in the future are referred to as prepaid expenses. Prepaid expenses are assets on the balance sheet, while accrued expenses are liabilities.
How do you Record Accrued Expense?
Accrued liabilities interact with expense and liability accounts. A debit increases expense accounts, and a loan decreases expense accounts. A credit increases liability accounts and a debit reduces liability accounts.
Keep in mind the accrued liabilities are reversing entries. These are temporary entries that are used to make adjustments to the records during accounting periods. As a result, you create the first journal entry with accrued expenses. When you pay the money owed, you replace the original record with another entry.
Step 1: You Incur the Expense
At the close of the fiscal year, you incur an expense. You owe money but haven’t been paid yet. You must record an accrued liability in your accounts.
An accrued expense journal entry is usually a debit to an Expense account. Your costs will rise as a result of the debit entry.
A credit is also applied to an Accrued Liabilities account. Your liabilities are increased as a result of the credit.
What happens when you make these entries? In the income statement, the expenses have increased. In addition, the liabilities rise on the balance sheet.
Step 2: When You Pay The Expense
When you pay the expense at the beginning of the next accounting year then reverse the original entry in your book of accounts.
Debit the Accrued Liability account to reduce the liabilities. When you pay off the payments, you have less liability.
Credit an asset account. In this case, credit the Cash account that you paid the expense in cash. A credit reduces the amount of cash you have.
You must remove the expense from the balance sheet when you reverse the original entry and prove that you paid it. This lowers your liability. And, when you paid it, the income statement could reflect a cash drop.
Accrued Expense Vs Account Payable
Companies may pay for expenses incurred in the past or that may be sustained in the future. Accrual accounting is a way of recording those accumulated costs, which may be either accrued expense or accounts payable. Accrued expenses are claims that have accumulated over time and must be paid. Accounts payable (AP), on the other hand, known as “payables,” are a company’s continuing liabilities and are usually short-term loans and must be paid off within a certain time frame to prevent default. The refusal to repay a debt is referred to as default.
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