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What is an Accrued Expense?

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  • Written By: Mary McMahon
  • Edited By: O. Wallace
  • Last Modified Date: 06 November 2016
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An accrued expense is an expense which is recorded in the accounting books even though it has not yet been paid. The expense is recorded because there is a reasonable expectation that the funds will be paid out, and the company wants to account for it. Accrued expenses may also be referred to as accrued liabilities, and they are documented in the financial accounts of companies of all sizes. They are also disclosed in public financial filings.

To be considered an accrued expense, an expense must be periodic with a high probability of collection. Interest is a classic example, and things like payroll and taxes could also be considered accrued expenses. In these cases, the funds haven't yet been paid out, but they will be, and accounting for them can be an important part of budgeting properly. Companies can also have accrued income, funds which they have a reasonable expectation of collecting from outside sources.

If, for example, a company takes out a loan due in six months with a lump interest payment, the interest needs to be counted as an accrued expense over those six months. It hasn't been paid yet or even billed, but it exists as an expense which will need to be covered in the future. Likewise, companies list payroll as an accrued expense because they will be expected to pay it at the end of the pay period, even if they haven't paid it out just yet.

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Failure to account for an accrued expense can cause problems with accounting. A budget may be overestimated because people don't think about accrued liabilities which will impact the amount of available funds, as when companies neglect to think about tax payments and subsequently find themselves short when such payments are due. Not accounting for accrued expenses can also create a false picture of financial health, by not disclosing future financial obligations which will become an issue for the company in the future.

Accrued expense accounting can get complicated. Accountants have to be careful when deciding how to classify accounting entries to make sure that they are accurate. It's also important to know how to read statements to understand what is being disclosed when one reviews public financial statements. People who are new to reading financial statements may want to ask a financial adviser for help so that they can learn about what the different entries on public statements mean.

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bear78
Post 4

I think keeping accounts of accrued expenses is also a good way to make sure we pay them right?

If it wasn't included in the accounts, it could easily be forgotten, especially when there are so many expenses and income details to look through.

Am I correct?

serenesurface
Post 3

@sweetPeas-- Yea, businesses who want to establish a strong foothold and guarantee their future will have to know how to account for accrued expenses before it's too late. I think it's all about preparing for the future, whether that involves the next month, the next six months or several years. Businesses who think about the future do well.

Accrued expenses are not just bank payments or taxes either. It's also employee wages and other benefits. For example, if an employee suddenly falls sick and takes leave, that is a cost to the employer because the employer still has to keep paying wages for a certain period even though the employee is not working. A replacement might be required and that employee's wages will have to be paid too.

This is also an important expense and if a business owner accounts for sudden employee leaves beforehand as an accrued expense, there won't be any surprises and shortcomings in the budget.

live2shop
Post 2

I think that many of us who are or should be keeping an accurate financial statement of our family's expenses and income, should take a look at the accounting model of companies. A family budget is simpler, but not that much different from business accounting.

A family budget should include not only all sources of regular income, but also expected income. On the expense side, amounts spent and what will be spent in the future, like taxes, insurance and other payments that are not monthly, should be written down.

It's a bit of a pain to set up such a budget to begin with, but it will go a long way to keep a family out of credit card debt. It will also help them see their true financial picture so they can decide what they can afford.

sweetPeas
Post 1

For as long as financial records have been kept, business owners must have used a lot of trial and error to figure out how records needed to be kept to show what was going on with their business.

I wonder how many new business owners didn't do their homework on how to set up and maintain a business? It may not have dawned on them that in order to have a clear financial picture of a business, you need to record future expenses you know need to be paid, and accrued revenue you know that you will, undoubtedly, receive.

I'm sure these novice business owners learn after the first year in business, that they must record these accrued expenses.

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