Adjusting Entries: Accrued Expenses - Online Tutor, Practice Problems & Exam Prep

Accrued expenses are liabilities incurred before cash payment, reflecting benefits received without immediate cash outflow. For example, if an employee earns $100 daily and works three unpaid days, the company records a $300 accrued wage expense. Upon payment, the company debits the accrued liability and recognizes current wage expenses, ensuring compliance with the matching principle. This process highlights the importance of accrual-basis accounting in accurately reflecting financial obligations and expenses within the accounting period.

Adjusting Journal Entries: Accrued Expenses

All right. So now, let's move on to accrual adjusting entries. The first one for accrued expenses. So remember that these adjusting entries are going to include deferrals, accruals, and depreciation. So now, we're in the accrual section. We're going to talk about accrued expenses here. Accrued expenses, this is pretty general. This could be a bunch of different things, but these are when we incur an expense before cash is paid. Okay? So remember an expense, we're receiving some benefit, right? We receive a benefit when we take an expense, but we haven't paid for it yet, right? So think about that.

Pop quiz, accrued expenses are A) expenses, B) liabilities, C) assets, or D) revenues. So think about it. There's going to be an expense. There was an expense that we received the benefit for, but we haven't paid the cash for yet. We don't have the outflow. So the key here, I know you might think that these are expenses, but they're actually liabilities. I know this keyword expenses makes you think it's an expense and that's pretty much always the case. I'm going to say 99% of the time it's the case unless you see this word accrued in front of the expense. That's going to be a cue that we're talking about a liability. Or if you see prepaid in front of the expense, that's a cue that we're talking about an asset. Okay? So, an accrued expense, this is the idea that we've received some sort of benefit, we haven't paid for it yet, right? We have that liability to pay for that benefit we received. Okay?

So let's see. There are 2 important dates when we're talking about recording accrued expenses. Just like all our adjusting entries, there were two dates. Okay? But in this one, you're going to notice because the cash happens later. So the first thing that happens is the closing date happens, the period ending date comes. Okay? So on the period ending date, we have to note that the periods are ending, so we have to take all expenses that were incurred during this period, right? And this goes back to that matching principle, right? When we talk about recognizing expenses, we have to match them to the revenues that we earned. So if we earned revenues during this period, we want to make sure that all the expenses during that period are also included. Okay?

So let's think about how this will fit in. And generally, when we talk about accrued expenses, the most common one is an employee expense. Alright? We're going to accrue the wages that we haven't paid them yet. So let's see how it happens here. The company's employee earns $100 per day, and the last pay date was December 28th. On December 31st, the entry is okay. So we're just going to imagine a very simple example that there's a company that has one employee that works every day of the year. He works every day of the year and he earns $100 every day. Okay? So the last pay date was on December 28th, right? That means he worked on December 29th, 30th, and 31st, and wasn't paid for it, right? But those dates did happen during this period, right? The period ended on December 31st, and there were these 3 days that we still haven't paid him for December 29th, 30th, 31st, and he would have earned $100 per day, right?

There's a $100 times the 3 days would be $300 that we owe to this employee from work he did this period. Right? Even though we're going to pay him next year once January comes along, well, in this period, he earned $300, right, even though he's not going to get paid yet. So on the company's books, we're going to have to take the expense. We have to take the wage expense for the employee of $300, right, to account for those 3 days that we didn't account for yet. Now, that's going to be the debit, right? We increased the expense $300 but we have to credit our accrued. Now this could just go into a broad accrued expenses category, right? We can just have all our accrued expenses in one place, but I'm going to call it accrued wage expense. Okay. So notice wage expense is an expense. Accrued wage expense is a liability, right? Because that keyword accrued tells us that this is related to an expense that we receive the benefit for, the employee worked for us, but we haven't paid for it yet, right? That's the accrued aspect. So we're going to credit that $300 to increase the liability by $300.

So now we have this accrual, this $300 accrual, but we're going to eventually pay him, right? We're going to pay that employee and when we do, it's in the next period. So the payment of the accrued expense removes it from the books, okay? So on January 4th, the company paid its employee for the 7 day pay period. Okay? So notice there are 7 days that the employee is getting paid for, right? So there are 7 days of payment, meaning there's a $100 a day times 7 days he worked, comes out to $700 is going to be the paycheck to the employee, right? So we can expect that the company's going to have a credit to cash of $700, right? So I'm going to write that in first. This will be down here and this is indented already for the cash to be a credit, right? We know that there's going to be a $700 credit to cash because that's what we are paying him, but now let's think about the debits. There are 2 debits in this case. The first debit is going to get rid of the liability, right? We no longer owe him that $300. We had accrued $300 on the books because we owed it to him from the previous period. But now we don't owe him that money anymore because we paid him in cash. So we're going to get rid of that liability, accrued wage expense. Okay? And that liability was $300, so we're debiting it $300 to get rid of it, right? There was a credit of $300, now the debit of $300, it's gone. But this doesn't balance yet, right? There's another $400 somewhere that needs to be accounted for. Well, what did that $400 relate to? Think about it. That first $300 was about last year, right? That was talking about December 29, 30, and 31st. But now we're talking about a 7 day period. It also includes January 1st, 2nd, 3rd, and 4th, right? These are days that the employee worked this period. Now we're in a new period, right? We're in the following year. So now we can do our wage expense. We can debit wage expense again. And this basically is a new wage expense, right? So if you think about it, we're in a new period, that wage expense had been cleared out when we closed the books and now we're building it up again for new wages that we're paying in the new year. Right? So this $300 has to do with last year's and this $400 is the current year wage expense. Does that make sense? So we're getting rid of the liability from last year's because we paid him for those 3 days during this period, but we also paid him for days that he worked during this period, that $400, okay? So that full payment of $700 one, gets rid of the accrued liability, but it also includes payment for the current period wages, all right? So let's go ahead and pause here and move on to the next video.

Wait-2-Pay, Inc. has an employee that works every day of the year for $100 per day. W2P pays its employee once per month on the 25th of the month. The company is preparing its December 31 financial statements. The entry to adjust for accrued salary expense would include:

• A. Debit Salary Expense $600; Credit Prepaid Salaries $600
• B. Credit Salary Expense $600; Debit Prepaid Salaries $600
• C. Debit Salary Expense $600; Credit Accrued Salaries Expense $600
• D. Credit Salary Expense $600; Debit Accrued Salaries Expense $600

Here’s what students ask on this topic:

What are accrued expenses in accounting?

Accrued expenses are liabilities that a company incurs when it receives a benefit but has not yet paid for it. These expenses are recorded in the accounting period in which they are incurred, even if the cash payment will be made in a future period. Common examples include wages earned by employees but not yet paid, interest on loans, and utilities used but not yet billed. Accrued expenses ensure that financial statements accurately reflect the company's financial obligations and expenses, adhering to the matching principle of accrual-basis accounting.

How do you record an accrued expense in accounting?

To record an accrued expense, you need to make an adjusting journal entry at the end of the accounting period. First, debit the expense account to recognize the incurred expense. For example, if an employee earns $100 per day and works three unpaid days, you would debit Wage Expense for $300. Next, credit the accrued expense liability account to reflect the obligation to pay. In this case, you would credit Accrued Wage Expense for $300. This entry ensures that the expense is matched with the revenue of the same period, following the matching principle.

Why are accrued expenses considered liabilities?

Accrued expenses are considered liabilities because they represent obligations that the company has incurred but has not yet paid. When a company incurs an expense, it receives a benefit, such as employee labor or utility services, but the cash outflow has not yet occurred. This creates a liability, as the company is obligated to pay for the benefit received in the future. By recording accrued expenses as liabilities, the company ensures that its financial statements accurately reflect its financial obligations and adhere to the accrual-basis accounting principles.

What is the matching principle in relation to accrued expenses?

The matching principle is an accounting concept that requires expenses to be recorded in the same period as the revenues they help generate. In relation to accrued expenses, this principle ensures that expenses are recognized when they are incurred, not when the cash payment is made. For example, if an employee works in December but is paid in January, the wage expense is recorded in December to match the revenue earned in that period. This principle provides a more accurate representation of a company's financial performance and obligations.

Can you provide an example of an adjusting entry for accrued wages?

Sure! Let's say an employee earns $100 per day and the last pay date was December 28th. The employee worked on December 29th, 30th, and 31st but hasn't been paid yet. The company needs to record an accrued wage expense for these three days. The adjusting entry on December 31st would be:

Debit Wage Expense: $300

Credit Accrued Wage Expense: $300

This entry recognizes the $300 wage expense incurred in December, even though the payment will be made in January. When the payment is made, the company will debit Accrued Wage Expense and credit Cash to remove the liability and reflect the cash outflow.