What Is an Accrued Expense? Definition and Examples

Accounting provides a framework for businesses to record, summarize, and report financial transactions, offering insights into an organization’s financial health. For financial statements to accurately reflect a company’s position, financial events must be recognized when they occur, not just when cash changes hands. This ensures stakeholders understand the true economic activities over a specific period.

What Accrued Expenses Are

An accrued expense is a cost a company has incurred but not yet paid or received an invoice for. These expenses are recognized as liabilities, reflecting an obligation to pay for benefits or services already received. Accrual accounting dictates that expenses must be recorded in the same period as the revenues they help generate, regardless of when cash payment occurs.

This matching principle ensures financial statements accurately portray profitability by aligning costs with the period they were utilized. For example, if a business uses utilities in December but receives the bill in January, the expense is still recognized in December. Accrued expenses are recorded through adjusting journal entries at the end of an accounting period.

Common Examples of Accrued Expenses

Accrued expenses arise when services are consumed before payment or invoicing. A common example is accrued salaries and wages, where employees have performed work, but payday falls in the subsequent accounting period. The company owes these wages, even if not yet processed.

Accrued interest expense on loans accumulates daily or monthly, even if payment is due quarterly. Accrued utilities cover services like electricity or water used during a month, billed the following month. Accrued rent also occurs when a business occupies a property before the rent payment is due.

How Accrued Expenses Impact Financial Statements

Recording an accrued expense affects both a company’s income statement and balance sheet. When recognized, an expense account on the income statement is debited, increasing total expenses for the period. This action reduces the reported net income.

Simultaneously, a liability account, such as “Accrued Expenses Payable,” is credited on the balance sheet. This credit increases the company’s liabilities, reflecting the obligation to make a future payment. This dual entry ensures financial statements accurately present incurred expenses and corresponding short-term financial obligations.

Accrued Expenses Compared to Other Accounting Concepts

Accrued expenses differ from accounts payable, though both represent liabilities. Accounts payable arise when a company receives an invoice for goods or services purchased on credit. In contrast, accrued expenses are recognized before an invoice has been received or processed, often requiring an estimate. Once an invoice for an accrued expense is received, it may be reclassified as an account payable.

Accrued expenses are the inverse of prepaid expenses. Accrued expenses represent costs incurred but not yet paid, making them a liability on the balance sheet. Prepaid expenses are payments made in advance for goods or services to be consumed in a future period, classifying them as assets. For example, paying a year of insurance upfront creates a prepaid expense, recognized gradually over the policy period.