What are accrued expenses? Give examples.

Summary: Accrued expenses are expenses that have been incurred but not yet paid or recorded by period-end, requiring adjusting entries to comply with the matching principle.

Definition:

Accrued expenses (also called accrued liabilities) are costs that a company has incurred during an accounting period but has not yet paid or recorded by the end of that period. They are recognized under accrual accounting to match expenses with the revenues they helped generate.

Key Characteristics:

1. Expense has been incurred (used/consumed)
2. Payment has not been made
3. Often no invoice received yet
4. Requires adjusting entry at period-end
5. Classified as current liability

Common Examples of Accrued Expenses:

1. Accrued Wages and Salaries:
   • Situation: Employees work last days of period, get paid next period
   • Example: Weekly payroll $10,000, period ends Wednesday (3 days worked unpaid)
   • Amount: $10,000 × 3/5 = $6,000 accrued
   • Journal Entry: Dr Wages Expense $6,000, Cr Accrued Wages Payable $6,000
2. Accrued Interest Expense:
   • Situation: Interest accumulates daily but paid periodically
   • Example: $100,000 loan at 6%, interest paid quarterly, 2 months accrued
   • Amount: $100,000 × 6% × 2/12 = $1,000 accrued
   • Journal Entry: Dr Interest Expense $1,000, Cr Accrued Interest Payable $1,000
3. Accrued Utilities:
   • Situation: Utilities used all month but billed next month
   • Example: Electricity used in December, bill received January
   • Amount: Estimated based on usage (e.g., $1,200)
   • Journal Entry: Dr Utilities Expense $1,200, Cr Accrued Utilities Payable $1,200
4. Accrued Commissions:
   • Situation: Sales commissions earned but paid next period
   • Example: 5% commission on $200,000 December sales
   • Amount: $200,000 × 5% = $10,000
   • Journal Entry: Dr Commission Expense $10,000, Cr Accrued Commissions Payable $10,000
5. Accrued Professional Fees:
   • Situation: Legal/accounting services received but not yet billed
   • Example: Lawyer worked 10 hours at $200/hour in December
   • Amount: 10 × $200 = $2,000
   • Journal Entry: Dr Professional Fees Expense $2,000, Cr Accrued Fees Payable $2,000
6. Accrued Rent:
   • Situation: Using rental property, rent payable at period start
   • Example: $3,000 monthly rent, period ends day before payment due
   • Amount: $3,000
   • Journal Entry: Dr Rent Expense $3,000, Cr Accrued Rent Payable $3,000
7. Accrued Taxes:
   • Situation: Taxes incurred during period but payable later
   • Example: Property taxes $12,000 annually, 3 months accrued
   • Amount: $12,000 × 3/12 = $3,000
   • Journal Entry: Dr Tax Expense $3,000, Cr Accrued Taxes Payable $3,000

Accounting Treatment:

Basic Adjusting Entry Format:

• Dr [Expense Account] (increases expense on Income Statement)
• Cr [Accrued Liability Account] (increases liability on Balance Sheet)

Example Complete Cycle - Accrued Wages:

1. Dec 31 (Period-end adjusting entry):
   • Dr Wages Expense $6,000
   • Cr Accrued Wages Payable $6,000
2. Jan 3 (Payday - actual payment):
   • Dr Accrued Wages Payable $6,000 (clears accrual)
   • Dr Wages Expense $4,000 (current period wages)
   • Cr Cash $10,000

Financial Statement Impact:

Balance Sheet (at period-end):

• Current Liabilities:
  • Accrued Wages Payable: $6,000
  • Accrued Interest Payable: $1,000
  • Accrued Utilities Payable: $1,200
  • Total Accrued Expenses: $8,200

Income Statement (for the period):

• Expenses increased by total accrued amounts
• Net income reduced accordingly
• Proper matching achieved

Why Accrue Expenses?

1. Matching Principle: Expenses matched with revenues they help generate
2. Accurate Financial Reporting: Complete picture of period obligations
3. GAAP Compliance: Required under accrual accounting
4. Better Decision Making: Managers see true period costs

Key Differences:

Important Notes:

1. Only material amounts should be accrued
2. Estimates should be reasonable and documented
3. Accruals are reversed when actual payment recorded
4. Essential for accurate period-end reporting
5. Different from prepaid expenses (paid but not incurred)