What Is Accrued Revenue? Definition & Examples
Grasp the accounting principle of recognizing revenue when earned, not just when cash is received. Essential for accurate financial reporting.
Accrued revenue represents income a business has earned by providing goods or services, even though it has not yet received payment. It highlights the value of work completed or products delivered that are still awaiting collection.
Defining Accrued Revenues
Accrued revenues refer to revenue recognized when it is earned, regardless of when the cash is actually received. This practice aligns with the accrual basis of accounting, which records economic events as they occur, rather than only when cash changes hands. Under this method, revenue is recognized once a company has fulfilled its performance obligation, such as delivering a product or completing a service. This approach provides a more comprehensive and accurate picture of a company’s financial performance and health over a specific period.
Accrued revenue contrasts with the cash basis of accounting, where revenue is recorded only when cash is received. For example, if a service is completed in December but payment arrives in January, accrual accounting dictates the revenue is recognized in December. This method ensures that financial statements reflect the true economic activity of the business, matching earned revenue with the period in which it was generated. Accrued revenues are considered an asset on a company’s balance sheet because they represent a claim to receive future cash from a customer.
Initial Recognition of Accrued Revenues
When a business earns revenue but has not yet received cash or issued an invoice, an adjusting journal entry recognizes this accrued revenue. This entry ensures that the company’s financial records accurately reflect all earned income within the correct accounting period. The standard procedure involves increasing an asset account, such as “Accrued Revenue” or “Accounts Receivable,” and increasing a revenue account.
The journal entry debits the asset account (e.g., Accrued Revenue or Accounts Receivable) and credits the relevant revenue account (e.g., Service Revenue, Sales Revenue, or Interest Income). For example, if a consulting firm completes a project phase worth $5,000 in December but will not bill the client until January, the firm debits Accrued Revenue for $5,000 and credits Service Revenue for $5,000 in December. This records the earned income in the period it was generated, aligning with the revenue recognition principle.
Settlement of Accrued Revenues
Settlement of accrued revenue occurs when the business receives cash for previously recognized income. This transaction requires a journal entry to update financial records and reflect the cash inflow. The purpose of this entry is to remove the temporary asset created during the initial recognition and replace it with the actual cash received.
Upon receiving payment, the journal entry debits the “Cash” account, increasing the company’s cash balance. Simultaneously, the asset account that was originally debited (e.g., “Accrued Revenue” or “Accounts Receivable”) is credited. For example, when the consulting firm receives the $5,000 payment from the client in January, it debits Cash for $5,000 and credits Accrued Revenue for $5,000.
Illustrative Examples of Accrued Revenues
Accrued revenues are common across various industries, reflecting situations where goods or services are provided before payment is collected. One example involves service-based businesses, such as consulting firms. They may complete a project or provide ongoing services for a client throughout a month, but their billing cycle dictates that an invoice is sent and payment received in the following month. The revenue earned for the services rendered in the current month, prior to invoicing, constitutes accrued revenue.
Another instance is interest income earned on investments or loans. A company might hold a bond or lend money that accrues interest daily or monthly, but the actual interest payment is only received quarterly or annually. The interest earned but not yet received by the end of an accounting period is recognized as accrued interest income.
Similarly, real estate companies or property managers often accrue rent income. If rent is due at the beginning of a month but collected later, the earned portion of that rent by the end of an accounting period would be considered accrued revenue.