What Does True-Up Mean in Accounting?

“True-up” in accounting refers to the process of adjusting financial records to align estimated figures with actual numbers. This reconciliation ensures accuracy in financial reporting, correcting discrepancies that arise from initial estimates or preliminary figures. It is a necessary step to confirm that a company’s financial statements accurately reflect its true financial position and performance at a specific point in time or over a period.

The Purpose of True-Ups

Financial reporting often relies on estimates throughout an accounting period. Businesses frequently accrue expenses, defer revenue, or project tax liabilities based on available information. These initial figures, while useful for ongoing operations, may not precisely match the actual amounts once all transactions are finalized.

True-ups become necessary to correct these discrepancies, ensuring that financial statements are complete and reliable. They help to reflect the actual financial position and performance of a business. This accuracy is important for internal decision-making, external compliance with accounting standards, and maintaining trust with stakeholders like investors and creditors.

Common Scenarios for True-Ups

True-ups commonly occur in various accounting areas where initial estimates are later replaced by definitive amounts. These adjustments help maintain precise financial records and ensure financial reporting aligns with actual events.

Payroll Adjustments

Payroll true-ups are often needed for variable compensation elements like bonuses, commissions, or overtime. Employers might estimate these costs throughout the year, but the final amounts are determined by actual performance, sales, or hours worked.

For instance, non-discretionary bonuses and commissions must be included in an employee’s “regular rate” of pay for overtime calculations under the Fair Labor Standards Act (FLSA). If a bonus is earned over multiple weeks, it must be factored into the regular rate for all overtime hours worked during that period, leading to a “true-up” payment for additional overtime owed. This ensures employees receive appropriate compensation based on their actual earnings and hours.

Tax Liability Alignment

Businesses and individuals frequently make estimated tax payments throughout the year, such as quarterly income tax payments to the Internal Revenue Service (IRS). These payments are based on projected income and deductions.

At year-end, when actual income and expenses are finalized, a true-up is performed to align the estimated tax payments with the actual tax liability. This adjustment helps avoid underpayment penalties.

Revenue Recognition Adjustments

Revenue recognition, particularly for long-term contracts or subscription services, often involves estimates that require true-ups. Under Accounting Standards Codification (ASC) 606, companies recognize revenue as they satisfy performance obligations by transferring goods or services to customers. For contracts spanning multiple periods, initial revenue recognition might be based on estimated progress or delivery schedules. A true-up would then adjust the recognized revenue to reflect the actual completion of services or delivery of goods, ensuring compliance with the principle that revenue is recognized when earned.

Expense Accruals and Prepayments

Many expenses, such as utilities, rent, or insurance, are estimated or paid in advance and then adjusted to actual figures. For example, a business might accrue estimated utility expenses monthly, but the actual invoice arrives quarterly. A true-up reconciles the estimated accrual with the actual bill received.

Similarly, prepaid expenses, like an annual insurance premium paid upfront, are initially recorded as an asset and then expensed over the coverage period. A true-up ensures the expense recognized each period accurately reflects the portion of the service consumed.

Performing a True-Up

Performing a true-up involves a methodical approach to identifying, quantifying, and recording adjustments. The process begins with identifying discrepancies between estimated figures and actual amounts. For instance, comparing an accrued utility expense of $1,000 to an actual bill of $1,100 reveals a $100 difference.

The next step involves calculating the exact variance that needs adjustment. This quantifiable difference is the amount by which the original estimate must be increased or decreased. Following this, a specific journal entry is prepared and recorded in the accounting system. For the utility example, an additional $100 would be debited to the Utilities Expense account and credited to a liability account like Utilities Payable. Finally, all relevant accounts are reconciled to confirm that the true-up has achieved accuracy and that the financial records now reflect the actual figures.