Accrued expense payable is a vital concept in accounting and has a lot of implications for businesses. Every business has some obligations that they are expected to meet up with. The financial expenses incurred by businesses from different suppliers from which no invoice has been issued are referred to as accrued expenses payable.
While recording an accrued expense payable on the business journal, the accountant records it as a reversal entry. A reversal entry allows for an automatic reversal in the next accounting period. When a business records its accrued expenses payable as a reversal entry, the business succeeds in fast-tracking the process of accounting for expenses incurred in the past.
An accrued expense payable is classified as a short-term liability. Businesses, therefore, record these expenses as such on the balance sheet. Businesses do not however record all the accrued expenses in their balance sheet. The ones recorded are those expenses that can have an impact on the financial standing of the business.
The format for journal entry for accrued expense payable is shown below:
For example, Glasglow company consumed $2000 utility in the month of July. The utility bill was not paid on July 31st which is the payment date. However, on August 03, Glasglow receives its utility bill and eventually makes payment on the 10th of August. The journal entry as of July 31st will be as follows:
The accrued utility is credited on the utility payable account on the payment date and credited on the utility expense account as it is an expense to the company.
When the company pays the utility bill on August 10, a counter entry will be made on the utility payable and cash accounts as follows:
At this point, you may be wondering what amount of accrued expenses could be considered immaterial on the company’s balance sheet. What many companies do is set a benchmark for accrued expenses. Any expense that falls below the stipulated amount is not accrued. For instance, if a company sets this threshold at $50, it means that expenses below $50 are not accrued.
Some businesses operate on solely cash basis accounting. These businesses only recognize expenses when suppliers are paid. Where the cash basis accounting is what is in place in a business, accrued expenses are not recognized. Rather, expenses are recognized when the supplier receives cash for such expenses. The downside of cash basis accounting is that expenses that have not yet been paid for before the end of a reporting period, are not recognized in the next reporting period.
Accrued expenses are only recognized as expenses once such a transaction occurs. Whenever a company makes a credit transaction, such transactions are entered as accrued expenses until the supplier issues an invoice. Once invoices are issued, these purchases are then recorded as accounts payable.
It is important to know the common examples of accrued expenses. Businesses have varieties of cost units from which accrued expenses could emanate. Some of the expenses that can be accrued includes:
- Employee salary or wages
- Electricity bills
- Telephone bills
- Services received from different vendors
- Interest charges on loans
- Goods received on credit
The balance sheet is a vital business document as it shows the summation of a company’s shareholder equity, assets, and liabilities. With a balance sheet, company management and shareholders alike can decipher at a glance the financial standing of the business.
Businesses that do not operate on cash-only accounting, report accrued expenses in the balance sheet. These expenses are recorded as current liabilities as they are what the company owes and needs to pay for.
It is possible to confuse accrued expenses payable with account payable. Both accrued expenses payable and account payable are entered as current liabilities on the balance sheet. So, what are the differences between the two if there are any?
Accrued expenses are the total of all expenses which suppliers have not yet billed to a company. These expenses must be paid by a company but have not yet been cleared. So you may be wondering if these expenses have not yet been billed by suppliers, why report them? The company will eventually pay these bills as they are liabilities.
Reporting accrued expenses give management a better view of the company’s liabilities. Having a holistic view of the company’s total liability will help the business make wise decisions in its spending. Accounts payable on the other hand comprises all debts that the company has received invoices for but is yet to pay them.
On the balance sheet, accrued expenses and accounts payable are recorded under current liabilities. Once suppliers issue invoices for accrued expenses, it becomes accounts payable.
Now you know the difference between accrued expenses and accounts payable. However, you all need to know when a business should accrue an expense or when that expense should be reported as account payable.
Organic Glow is a skincare production company located in Texas. The company over time has extended its coverage to 10 other states and was making a high-profit margin. However, while production was on, one of the machines broke down. A repairman was invited to take a look at it and upon inspecting the machine, he discovered that a vital part was broken and needed replacement.
The company then ordered the part from its supplier on express delivery and it came in the next morning. The repairman fixes the machine and issues an invoice for the work he did before leaving. In this type of situation, the expense will be recorded as an account payable and not accrued expense because an invoice has been issued for it. If there are other unpaid expenses that the invoice has been issued for, the repairman’s bill should be added to it and added to the account payable totals on the balance sheet.
The amount spent on the machine part will be recorded as an accrued expense on the balance sheet, pending when the company receives an invoice from the supplier. Once the company receives an invoice from the supplier, the accountant moves the item from the accrued expenses accounts to accounts payable.
The debit and credit principle in accounting makes it possible to balance the company’s books. A debit entry in assets and expenses accounts indicates that an increase occurred there. On the other hand, a debit entry on the equity, liability, or revenue accounts indicates that a decrease occurred in these accounts.
Whenever there is a decrease in assets and expenses, these accounts are credited. Equity, revenue, as well as liabilities, receive a credit entry when there is an increase. The accounting principle of double-entry applies to the record of financial transactions. As a result, every debit entry must have a corresponding credit entry for the accounting books to balance.
Accrued Expenses are liabilities to a company because it represents what the company owes even though the invoice has not yet been issued for it. Accrued Expenses are therefore credited when an increase occurs and debited whenever there is a reduction.