Meaning of Accrued Expenses
In the mercantile system of accounting, expenses are recorded on an Accrual basis. The expenses pertaining to any particular year must get Debited to the respective year. Therefore the expenses incurred in the current year, but the invoice is not received from Vendors are Accrued Expense or the Provision is made for these expenses.
What is Accrual Accounting?
In the mercantile system of Accounting, the expenses must get accounted for or Debited in the same year/period, for which those are pertaining. And will not get Debited to another year for which these are nor not pertains. These types of expenses are certain in nature.
What is Provision in Accounting?
These are less certain than Accrued expenses. Companies provide the expenses for an uncertain event. But in accounting, both the words Accruals & Provision are used commonly for the same.
What is the difference between Accruals & Provision for expenses?
Accruals are certain in nature whereas companies provide the expenses for some uncertain event. E.g. Provision for Doubtful debts, Provision for Depreciation, etc.. But in accounting both the words are used interchanged and either of these are used to book the Accruals.
Here I am writing on Accruals and used both the words, Accruals, and Provision in a common context. So that readers should not lose the content.
In India, books are closed on the 31st of March every year as per IGAAP. The Financial Year (FY) starts from 1st April of the current year to 31st March of the following year. Example – Financial Year 2019-20 starts from 1st April’19 to 31st March’20. And all the expenses pertaining to FY 2019-20 should get debited in the same year, 2019-20.
But the business units will not get the invoices for all the expenses incurred till 31st March’19. This may be because invoices are issued by the vendors in next month, i.e. in the next Financial Year in April’20.
Examples of Accrued Expenses.
How to book the expenses for the current year for which the invoices are dated next year?
E.g. Security Expenses / Facility Expenses / Stationery / Rent / Maintenance etc. for the month of March’20 are billed in April’20. But since these expenses pertain to the year 2019-20, these must get Debited in 2019-20. Otherwise, if get Debited in 2020-21, these expenses are treated as Prior period expenses in the next year 2020-21 & get disallowed in Income Tax calculation in 2020-21.
To book the Accruals, the ‘Expenses are getting Debited & GL ‘Provision for expenses’ or ‘Accruals’ get credited in the current Financial Year 2019-20, for which the expenses pertain to.
In case Salary / Payroll is getting paid in next month, we have to Accrue Payroll also for the period/year in which it accrues i.e. on 31st March’19.
Journal Entry for Provision | Accrued Expense Example :
Security Expenses Dr.
Facility Expenses Dr.
Stationery Dr.
Rent Dr.
Maintenance Dr.
Salary / Wages Dr.
To Provision for expenses / Accruals
The Provisions / Accrued Expense (i.e. Accruals) accounted in the current year must be reversed in the next Financial Year.
How to account for the Invoices next year, against accrued expenses booked in the previous year?
Thereafter when we receive the invoice in the month of April’20 for these expenses,
Option 1 : The amount to the extent of expenses pertains to last year will get accounted for as below.
Provision for expenses / Accruals Dr.
To Vendor / Bank
Or
Option 2 : Can be accounted as below.
- 1st step, Account the invoice by Debiting to Expenses & then reverse the Provision as below.
Security Expenses Dr.
Facility Expenses Dr.
Stationery Dr.
Rent Dr.
Maintenance Dr.
Salary / Wages Dr.
To Vendor / Bank
- 2nd step is to reverse the Provision, which is accounted for in 2019-20, last year.
Provision for expenses / Accruals Dr.
To Security Expenses
To Facility Expenses
To Stationery
To Rent
To Maintenance
Accrued Expenses Balance Sheet
The balance in accrued expenses is the credit balance and appears on the liability side of the Banalce Sheet.
Conclusion : Option 2 will be having a better track of the expenses pertains to which period & how to treat the same.
