An accrued expense is a cost that a business has incurred in a period but has not yet paid or received an invoice for by the end of that period. Under accrual accounting the cost belongs to the period in which the benefit was used, so the company records an expense in the income statement and a matching current liability, often called accrued liabilities or accruals, on the balance sheet. Typical examples are staff wages earned but not yet paid, interest on borrowings, electricity used, bonuses, and professional fees for work already done.
An accrued expense differs from accounts payable, which records amounts for which a supplier invoice has already arrived. It is the reverse of a prepaid expense, where cash leaves before the cost is used. On the income side the equivalent entry is accrued revenue.
Accrued expense in plain terms
Most households pay for electricity after using it. By the last day of the month the lights have been on for weeks, so the family already owes the power company, even though the bill will not arrive until the middle of next month.
If the family kept careful accounts, they would count that electricity as a cost of the month in which they used it, and write a note saying "about this much still to pay". An accrued expense is that note in a company's books. It makes sure each month carries its own costs, so that profit is not overstated in one month and understated in the next simply because of when the bills happen to land.
Common types
- Payroll accruals. Salaries, overtime, holiday pay and employer social charges for days worked since the last payroll run.
- Interest accruals. Interest on loans and bonds that builds up daily between coupon or payment dates.
- Utilities and services. Power, telecoms, cloud hosting and cleaning used before the supplier bills.
- Bonuses and commissions. Incentive pay earned during the year but settled after the year end.
- Professional fees. Audit, legal and consulting work performed but not yet invoiced.
- Taxes. Current income tax and other taxes owed for the period, which are often shown as a separate line.
How it is recorded
At the period end the accountant posts an adjusting journal entry during the month-end close: debit the relevant expense account and credit accrued liabilities. When the invoice later arrives, the accrual is cleared against accounts payable, and when cash is paid, accounts payable is cleared against the bank account. Many systems post the accrual as a reversing entry dated the first day of the next period, so the real invoice can be entered normally without counting the cost twice.
For example, a company pays its staff on the 5th of each month for the previous month. Its monthly payroll is $300,000. At 31 December it has not yet paid December wages, so it debits wages expense by $300,000 and credits accrued wages by $300,000. The December income statement now shows the full cost of the month, and the liability is cleared when the payroll is run on 5 January. Interest is accrued in the same way: on a $5,000,000 loan at 6% a year with 30 days since the last payment, the accrual is about , or $24,658.
Under cash accounting there are no accrued expenses, because costs are recorded only when paid. This is simpler but can make profit swing from month to month for reasons that have nothing to do with how the business is performing.
Accrued expenses in analysis
Accrued liabilities form part of working capital. A rise in accruals means the company has used goods and services without yet paying for them, which shows up as a positive adjustment to operating cash flow in the statement of cash flows. Analysts sometimes include accruals with payables when calculating days payable outstanding, although many definitions use trade payables only.
Some accruals are close to certain, such as interest on a fixed-rate loan, while others are estimates, such as an audit fee or a year-end bonus pool. Where the timing or amount is genuinely uncertain, accounting standards may require the item to be treated as a provision instead, with stricter recognition and disclosure rules (IAS 37 under IFRS, ASC 450 under US GAAP).
Risks and controls
Because accruals rely on estimates and are not backed by an invoice, they are a common place for errors and for manipulation. Under-accruing costs flatters net income; over-accruing in a good year creates a cushion that can be released later. Controls include comparing accruals with actual invoices received after the period end, reviewing unusual movements, and checking that reversing entries were posted. Auditors routinely test these "search for unrecorded liabilities" items before signing off the accounts.