Accrual Accounting

What is accrual accounting?

Accruals in financial accounting mean recording revenues that your business has earned but hasn't been paid for yet, as well as expenses that you’ve incurred but haven’t paid yet. This approach follows the matching principle, which states that you should recognise revenues when they are earned and match expenses to the same time period.

Recording accruals

Accountants need to record, adjust, and track income and expenses that still need to be recorded. Making these adjustments accurately ensures your financial statements are reliable and can help you make better business decisions.

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Types of accruals

Deferred revenue

  • What it is: Money received before delivering a product or service. It’s a liability because you still owe the product or service.
  • Example: A gym gets paid for a 6-month membership in advance.

Accrued revenue

  • What it is: Money earned for a product or service provided but yet to be paid for.
  • Example: Rent that’s due every six months for a leased store.

Prepaid expenses

  • What it is: Paying for a good or service in advance. It’s an asset because it discloses the right to receive goods or services in the future.
  • Example: A dentist pays for a year-long magazine subscription in advance.

Accrued expenses

  • What it is: Costs that have been incurred but have yet to be paid.
  • Example: A company uses an internet service and pays the bill quarterly.

3 advantages of accrual accounting

Accrual accounting is complex than cash accounting but is standard for most businesses because it gives a fuller picture of your financial situation.

  • Complete Picture: Shows all transactions, not just those involving cash.
  • Detailed Records: This includes credit transactions and capturing money to be paid or received later.
  • Strategic Insights: Offers accurate financial statements to help with better decision-making.

Learn more: What is a pitch deck?

Using accrual accounting, you can see a complete picture of your financial health, including transactions where payment or receipt of money occurs at a different time than the transaction itself. This helps you understand your business’s actual financial position and plan more effectively for the future.

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