7/27/2019 Lecture 4 Accruals and Prepayments

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The accruals concept Income and expenses should be matched together and

dealt with in the income statement for the period towhich they relate regardless of when the cash wasactually paid or received.

Examples: Sales

Purchases

Cost of sales

Expenses

Accrued Expenses An accrued expense is an item of expense that has been

incurred during the period but has not yet been paid for.

When the expenses for the period is more than the cashpaid during the period

Amount paid plus the amount incurred (but not yetpaid) at the end of the year will be shown in the incomestatement

The amount incurred but unpaid represents anoutstanding liabilityat the end of the year and will beincluded under the accrued expenses or accruals inthe balance sheet

NOTE: In the next accounting period, this accrual will cease to be a liability and willbecome a payment in the cash flow statement of that period.

Accruals examplesExample 1

A business paid heating bills of 2700 for YE 30 Sep 2011. At the year endthere was an unpaid bill of 600 covering the 3 months to 30 Nov 2011. Whatappears in the income statement under heating?

Example 2

A business has paid the following electricity bills during the year to 31 Dec2011:

28 Feb: For 2 months to 28 Feb 300

31 May: For 3 months to 31 May 540

31 Aug: For 3 months to 31 Aug 220

30 Nov: For 3 months to 30 Nov 360

The bill covering the 3 months to 28 Feb 2012 amounted to 360. what

appears in the income statement for YE 2011 with respect to electricity?

Prepayments (Prepaid expenses)

A prepaid expense is an item of expense that has been paidduring the current period but relates to the next accounting

period.

When the amount paid during the period is more than fullexpenses for the period Amount paid for the accounting period will be shown in the

income statement at the end of the year

The amount paid in advance represents a current asset at the end ofthe year and will be included under the prepaid expenses orprepayments in the balance sheet

NOTE: In the next accounting period, this prepayment will cease to be an asset andwill become an expense in the income statement of the period.

Prepayments exampleJohn pays insurance on his the machinery that he rents

in advance. His payments for 2011 are:

1 Jan (for 3 months to 31 March 2011) 800

28 March (for 6 months to 30 Sep 2011) 1800

2 Oct (for 6 months to 31 March 2012) 1800

What is the insurance expense for the year endedDec 2011?

7/27/2019 Lecture 4 Accruals and Prepayments

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