Module 6: Accrued and Prepaid Expenses, and Accrued and Deferred Income Flashcards
Accrual Accounting
Depicts the effects of transactions in the periods in which those effects occur, even
if the resulting cash receipts and payments occur in a different period.
Accrued Expenses
An accrued expense (an accrual) is an expense incurred for which no invoice has been received or no payment has
been made.
An accrual is a liability (obligation to transfer economic resource), so to create one, we must credit an accrual account.
Recognising an accrual - JE
Dr P&L – expenses Cr Accruals (liability)
The year-end date of the company may not coincide with the period covered by the invoice and so pro rating the accrual
may be required.
Reversing an accrual - JE
In the period following the creation of an accrual, 1. the supplier invoice is recorded and 2. the accrual should be
reversed.
1.
Dr P&L – expenses
Cr Trade creditor
being supplier invoice received
2.
Dr Accruals (empty liability)
Cr P&L – expenses (decrease accrual expense)
being reversal of prior period accrual.
(There may also be VAT)
Across these two journals:
• The prior year expense, which has been recognised in the current year by recording the supplier invoice, will be
removed; and
• The accrual effectively becomes a trade creditor.
Prepaid Expenses/Prepayment
A prepaid expense (a prepayment) is an expense not yet incurred for which an invoice has been received or a
payment has been made in advance.
A prepayment is an asset (an economic resource - future services owed to the entity) so to create one, we must debit a prepayment account.
Recognising a prepayment - JE
The entity will first recognise the invoice for an expense not yet incurred:
Dr P&L – expenses (expense)
Cr Trade creditor (liability)
The entity then recognises the prepayment as:
Dr Prepayments (asset)
Cr P&L – expenses (expense)
The recognition of a prepayment will remove the expense which has not yet been incurred. Pro-rating may be required.
Reversing a prepayment - JE
Dr P&L – expenses (expense)
Cr Prepayment (asset)
being reversal of prior period prepayment.
(There may also be VAT)
The journal entry records the expense incurred in the current period, for which the supplier invoice was received in
the prior period.
Accrued Income
Accrued income is income earned for which no customer invoice has been issued or no payment has been
received.
Accrued income is an asset (economic resource owed to the entity for work done but not yet invoiced) so to create it, we debit an accrued income account.
Recognising Accrued Income - JE
Dr Accrued income (asset)
Cr P&L – sales/ other income (income)
Reversing Accrued Income - JE
In the period following the creation of accrued income, 1. the customer invoice is issued or payment is received and 2. the
accrued income should be reversed.
1.
Dr Trade debtors/ Bank (asset)
Cr P&L – sales/ other income (income)
being customer invoice issued/ receipt
2.
Dr P&L – sales/ other income (decrease income)
Cr Accrued income (empty accrued income asset)
being reversal of prior period accrued income.
(There may also be VAT)
Across these two journals:
• The prior year income which has been recognised in the current year by recording the customer invoice/ receipt
will be removed; and
• The accrued income effectively becomes a trade debtor/ receipt.
Deferred Income
Deferred income is income not yet earned for which a customer invoice has been issued or a payment has been
received in advance.
Deferred Income is a liability (an obligation to transfer economic resource for future services) so to create one, we must credit a deferred income account.
Recognising Deferred Income - JE
The entity will first recognise the customer invoice for income not yet earned:
Dr Trade debtors (asset)
Cr P&L – sales/ other income (income)
being customer invoice issued
The entity then recognises the deferred income as:
Dr P&L – sales/ other income (income)
Cr Deferred income (liability)
being deferred income.
The recognition of deferred income removes the income which has not yet been earned.
Reversing Deferred Income - JE
In the period following the creation of deferred income, the income is earned and the deferred income should be
reversed.
Dr Deferred income (empty liability)
Cr P&L – sales/ other income (income)
being reversal of prior period deferred income
(There may also be VAT)
The journal entry records the income incurred in the current period for which the customer invoice was issued/
payment was received in the prior period.
VAT for Accruals, Prepayments, Accrued income and deferred income
Accruals, prepayments, accrued income and deferred income are all recognised exclusive of value-added tax
(‘VAT’) (i.e., the net amount is recognised).
VAT is recognised when the related supplier/ sales invoice is recorded in the nominal ledger (i.e., in the period when
the accruals, prepayments, accrued income and deferred income are reversed).
