Accrued expenses are costs that haven’t yet been invoiced or paid that will be the business’s responsibility in the future. Tracking accrued expenses allows your business to plan for current and upcoming costs.
Understanding how accrued expenses work can help you streamline your company’s operations, budget efficiently, and maintain easily accessible records for filing tax deductions.
- Accrued expenses are costs incurred—but not yet paid—by a business.
- These types of expenses are estimates and may differ from the final invoice amount.
- Accounts payable differ from accrued expenses because the latter are recorded before the invoice is received.
Definition and Examples of Accrued Expenses
Accrued expenses are business expenses that have been incurred in one accounting period but won’t be paid until the next period. These are different from accounts payable because the invoices for them have not yet been received or entered into the payment system.
These are expenses for goods or services that your business has purchased and will eventually have to pay. You have to take them into account when planning your budget and other expenses, even if they haven’t yet been invoiced. This way, you can make sure you don’t accidentally spend the money you will need to pay these expenses.
“They are also known as ‘accrued liabilities’ as the business is liable (i.e., they are obligated to pay…) for them, even though the goods or services have not yet been delivered or billed,” JC Glancy of ZenBusiness told The Balance via email.
- Alternate names: Accrued charges, accrued liabilities, accrued costs, accrued expenditures
For instance, “Subscription services (e.g., domain registration renewals, software subscription services, email marketing, etc.) for which invoices have not been generated by the end of your accounting period can be an example of frequent accrued expenses,” Daniel Kroytor, president of TailoredPay, an online card processing service, told The Balance via email.
Other examples of accrued expenses include:
- Tax payments that aren’t immediately due
- Employee wages that need to be paid by the first or second of the next month
- Contractor or freelancer fees that haven’t yet been invoiced
How Accrued Expenses Work
Accrued expenses are recorded on your company's balance sheet as current liabilities to be paid now or in the near future.
When your company purchases goods or services (or is scheduled to make one), your accounts department makes a note of this liability in the in-house finance management system. These may be estimates until you receive a final invoice with the official expense totals.
Your business may also have accrued income. This is income that you have earned even if you haven’t yet received the payment for the services or goods you provided.
Glancy offers a helpful example to better explain how the accrual process works.
“On Sept. 1, you have a contract with a window cleaner to clean your windows two times a month. By Sept. 30, you have not received the invoice from the window cleaner for the service or paid the bill. To be able to account for that expense, you will need to record the expense as an accrual,” Glancy said.
This internally recorded expense is an accrued expense until it is paid.
Types of Accrued Expenses
Even very different types of businesses often have similar kinds of accrued expenses. Here are some common categories to keep in mind for your small-business accounting.
|Types of Accrued Expenses||How It Works|
|Wages or Salaries||Employees are often paid in the first week of the month, so their wages or salaries are accrued in the previous month.|
|Interest Payments||If your business has a loan, the interest rates accrue over time until the date of payment.|
|Tax Payments||Most companies pay taxes at the end of the financial year, so the payments accrue for 12 months.|
Accrued Expenses vs. Accounts Payable
Accrued expenses can be confused with accounts payable. They are both important parts of small-business accounting. Though they are similar, they are not the same thing.
Here are some key differences to keep in mind.
|Accrued Expenses||Accounts Payable|
|Recorded before an official invoice has been received||Recorded after an invoice or a bill has been received|
|Tend to be estimates of what goods or services would cost||A specific amount from an official invoice|
|Accumulate over time||Does not necessarily “accrue” to increase over time|
Advantages and Disadvantages of Accrued Expenses
Maintaining accrued expenses offers business owners various benefits There are also some downsides. Before using an accrual method of accounting, be sure to understand the pros and cons.
Margin for errors
Requires more resources
- Better planning: Tracking accrued expenses can help you understand your business transactions better. This allows you to more accurately plan and manage your small business’s finances.
- Accurate representation: Accrued expenses offer a realistic picture of your company's assets and liabilities. This gives a more accurate representation of how your company performed in the given time period.
- Margin for errors: The total amount owed as an accrued expense is often estimated rather than exact. This means there is a margin for error in your accounting.
- Requires more resources: Setting up a system to record accrued expenses requires hiring, training, and team supervision. This setup could require your team’s time and resources.
The use of accrued expenses is preferred by GAAP (Generally Accepted Accounting Principles) over cash-based accounting because it reflects the cash-flow position of a business more accurately. Publicly traded companies are required to use accrual-based accounting in their reports to the U.S. Securities and Exchange Commission to remain GAAP-compliant.
Frequently Asked Questions (FAQs)
How do you record accrued expenses?
You have options in how to record your business’s accrued expenses. Some record these types of expenses in the accounting software their company already uses. Others choose to use finance-tracking apps.
What is the journal entry of accrued income?
The journal entry of accrued income is the record of an accrued expense. In other words, it’s documentation of the money that is owed during a particular period but that won’t be paid until the end of that period.
How do you reduce accrued expenses?
Your accrued expenses can be reduced when you pay down a part of these costs. First, you will need to debit the accrual account. Then, you will credit your expense account with the payment that you made.