Accrued expenses sometimes referred to as accruals, are expenses which have been incurred but at the end of the accounting period are not yet recorded in the accounting ledgers by the normal transaction process.
To illustrate, suppose a business has an annual premises rent of 12,000. However, an invoice for the rent has not been received from the landlord and the rental expense has not been recorded in the accounting records.
Accrued Expenses Journal Entry
Consequently at the end of the first month the business needs to accrue the cost of the rent for the accounting period. Accordingly, the calculation of the accrued expense is as follows.
Rental account period = 12 months Annual rent = 12,000 Period of accounts = 1 month Accrued expense = 12,000 x 1 / 12 = 1,000
Furthermore the accrued expenses journal entry is as follows:
| Account | Debit | Credit |
|---|---|---|
| Rent expense | 1,000 | |
| Accrued expense | 1,000 | |
| Total | 1,000 | 1,000 |
As can be seen the accrual double entry journal shown above debits the rent expense account which represents the cost to the business of using the premises for the month. The credit entry to the accrued expenses account reflects the liability of the business to pay the supplier (landlord) for the amount of service consumed during the period.
The Accounting Equation
The Accounting Equation, Assets = Liabilities + Owners Equity means that the total assets of the business are always equal to the total liabilities plus the owners equity of the business. It is important to realize that this is true at any time and applies to each transaction. To illustrate this the following table shows the Accounting Equation for the accruals double entry transaction.
In this case the balance sheet liabilities (accrued expenses) has been increased by 1,000, and the income statement has a rent expense of 1,000. The expense reduces the net income, retained earnings, and therefore owners equity in the business.
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About the Author
Chartered accountant Michael Brown is the founder and CEO of Double Entry Bookkeeping. He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries. He has been the CFO or controller of both small and medium sized companies and has run small businesses of his own. He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a degree from Loughborough University.