What is an Accrued Expense
An accrued expense is an accounting expense recognized in the books before it is paid for. Accrued expenses are typically periodic, and are documented on a company's balance sheet as current liabilities.
Accrued expenses are also known as accrued liabilities.
BREAKING DOWN Accrued Expense
When companies transact with each other, they frequently buy and sell on credit. A credit transaction occurs when an entity purchases merchandise or services from another, but does not pay immediately. The unpaid expenses incurred by a company for which no invoice has been received from its suppliers and vendors is referred to as accrued expenses. Other forms of accrued expenses include interest payments on loans, services received, wages and salaries incurred, and taxes incurred, all for which invoices have not been received and payments have not been made.
The term ‘accrued’ means to increase or accumulate. When a company accrues expenses, this means that its portion of unpaid bills is increasing. Following the accrual method of accounting, expenses are recognized when they are incurred, not necessarily when they are paid. For example, consider a company that pays salaries to its employees on the first day of the following month for the services received in the prior month. So, an employee that worked in the company all of June will be paid in July. At the end of the year on December 31st, if the company’s income statement recognizes only salary payments that have been made, the accrued expenses from the employees’ services for December will be omitted.
Since the company actually incurred 12 months’ worth of salary expenses, an adjusting journal entry is recorded at the end of the accounting period to accrue the last month’s expense. The adjusting entry will be dated as of December 31st and will have a debit to the salary expenses account on the income statement and a credit to the salaries payable account on the balance sheet.
When the company’s accounting department receives the bill for the amount of salaries due, an account known as accounts payable is credited. Accounts payable is found in the current liabilities section of the balance sheet and represents the short-term liabilities of a company. After the debt has been paid off, the accounts payable account is debited and the cash account is credited. This is the difference between accounts payable and accrued expenses – accrued expenses are costs for which no invoice has been made available, and accounts payable are expenses for which the bill has been received by the company.
An accrued expense is only an estimate, as it is likely to differ from the supplier’s or vendor’s invoice scheduled to arrive at a later date. Immaterial expenses are not accrued, since it requires too much work to create the related journal entries.
Accrued expenses are the opposite of prepaid expenses. Prepaid expenses are payments made in advance for goods and services that are expected to be provided or used up in the future. While accrued expenses represent liabilities, prepaid expenses are recognized as assets on the balance sheet.