What are long-term accruals?

August 17, 2010

1. Introduction to accruals

Accruals represent liabilities or assets that are recognized in the balance sheet at the end of the accounting period before they are invoiced or paid according to the accrual basis of accounting.

Accruals may refer to accrued assets (also called accrued revenues) or accrued liabilities (also called accrued expenses):

Illustration 1: Accrual revenues (assets) and accrued expenses (liabilities)

Accrued Revenues (Assets)

Accrued Expenses (Liabilities)

  • Interest receivable

  • Rent receivable

  • Service revenue receivable

  • Accrued interest

  • Accrued salaries

  • Accrued lawsuit expenses

In the case of accrued revenues (assets), the company accrues for revenue earned, but not yet received in cash or recorded at the balance sheet date. As shown above, interest receivable, rent receivable or service revenue receivable are all examples of such accruals.

On the other hand, accrued expenses (liabilities) represent expenses incurred but not yet paid or recorded at the balance sheet date. Examples of such expenses include accrued interest, accrued salaries, or accrued lawsuit expenses.

Accruals can be classified as short-term and long-term assets or liabilities. The criterion used to classify accruals as short- or long-term is the same as for any other asset or liability. That is, if an accrual is to remain on the balance sheet for more than a year (or the operating cycle if it's longer than a year) after the balance sheet date, then, it is a long-term accrual. All other accruals are short-term.

Accounting for accruals has the following features:

  • accruals are usually applied to revenue, operating expenses, or capital expenditures;
  • there is no need to get an invoice or to know the exact amount of the invoice to accrue; and,
  • the accrual amount may be estimated.

2. Examples of long-term accruals

To understand the accrual concepts better, let us look at the examples below:

Accrued Expense: Salary is paid on the 7th of each month for the previous month. Salary in the amount of $ 2,000 for March will be paid out on April 7.

Salary expense should be accrued as shown below:

At the end of March:

Account Titles

Debit

Credit

Salary Expense

2,000

 

      Salary Payable

 

2,000

On April 7:

Account Titles

Debit

Credit

Salary Payable

2,000

 

      Cash

 

2,000

Accrued Income: A furniture moving company was hired by a client in the middle of December. The company charges $1,400 per month. The company issues its first bill to the client in the middle of January for $1,400.

In this scenario, the revenue of $700 had been earned at the end of December and should be accrued as follows:

Account Titles

Debit

Credit

Accounts Receivable

700

 

      Income

 

700

When the client pays the bill, the following entry should be made:

Account Titles

Debit

Credit

Cash

700

 

      Accounts Receivable

 

700

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