What does accrual mean?
In accounting, the words ‘accrue’, ‘accrued’ or ‘accrual’ refer to a specific method of recording expenses and revenues as they occur.
Accrual accounting is a method whereby you record your business’ revenues and expenses when they are earned or incurred, regardless of when the money has been received or paid.
Regardless of whether you’ve settled the invoice or not, with an accrued expense, if you’ve ordered supplies but not yet paid the invoice you will still record it as an expense in the same reporting period.
The accrual accounting approach ensures that your financial statements and balance sheet accurately reflect your true financial position and performance over a set timeframe.
Accounts payable and accounts receivable in accrual accounting
Your accounts payable and accounts receivable ledgers sit at the heart of accrual accounting.
Accrued expenses and accrued revenues are recorded in a company’s financial statements as accounts payable and accounts receivable, respectively.
When you have an accounts payable ledger, this is a record of all the accrued expenses you’ve incurred but have not yet paid for. Thus, they are seen and recorded as expenses, even though you haven’t paid them yet.
Similarly, your accounts receivable ledger records all income that’s owed to you (but has not yet been paid by the client). With accrued income, your accounts receivable is seen and recorded as income or revenue, even though you’ve not received the payment.
Cash accounting vs. accrual accounting
The other method of recording expenses and income is to use ‘cash accounting’. With cash accounting, you only record a sale or an expense on your books when money has changed hands.
As it does not consider money owed, the cash accounting method gives less clarity of the current financial state of your business, compared with accrual accounting.
The word ‘accrued’ also includes any interest you accumulate on a debt. Thus, any interest applied to a debt that has not yet been paid is still recorded and reported upon, even though the payment has not been received by the lender (or paid by the borrower).
This glossary is intended for small business owners and contains definitions suited to their needs. For more comprehensive explanations, we recommend consulting an accounting or bookkeeping professional. Reckon does not offer accounting, tax, business, or legal advice.
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