What are accruals?
Accruals are expenses a business has incurred in a period but has not yet been billed for or paid, recorded so the accounts show the true cost.
What accruals means
An accrual is an adjustment made at the end of a month or year for costs that belong to that period but have not been invoiced yet. The electricity used in March, the accountant's fee for this year's accounts, or the interest on a loan up to the year end are all real costs of the period even though the bills arrive later.
Recording them follows the matching principle at the heart of accrual accounting: costs are shown in the same period as the income they helped to earn. The accrual sits on the balance sheet as a liability until the invoice arrives.
How to record one
At the period end, the business debits the expense in the profit and loss account and credits accruals, a current liability. When the invoice is received in the next period, the accrual is reversed, so the cost is not counted twice. Most accounting software lets you post a journal that reverses automatically on the first day of the next period.
Example
A company's year ends on 31 March. Its accountant will prepare the accounts in June for an agreed fee of £2,400. On 31 March it also owes about £600 for electricity used in February and March, billed in April.
| Accrual at 31 March | Amount |
|---|---|
| Accountancy fee | £2,400 |
| Electricity | £600 |
| Total accruals | £3,000 |
Profit for the year falls by £3,000, and the balance sheet shows a £3,000 liability. Because the costs are recognised this year, they also reduce this year's Corporation Tax.
Why it matters for your business
Without accruals, costs land in whichever month the invoice happens to arrive, so monthly management accounts swing up and down for no real reason. At the year end, missing accruals overstate profit, which can mean paying Corporation Tax too early or declaring a dividend the company cannot really afford.
Accruals vs prepayments
They are opposites. An accrual is a cost used but not yet billed: a liability. A prepayment is a cost paid in advance for a later period, such as annual insurance paid in January for the whole year: an asset. Both move costs into the period they relate to. The income-side equivalent of a prepayment is deferred income.
Common questions
Not if they use the cash basis, which since April 2024 is the default for sole traders and most partnerships. Under the cash basis, costs count when they are paid. Those who opt for the accruals basis, and all limited companies, do need to record them.
A liability. Accruals represent amounts the business owes for goods or services it has already received. They are shown under current liabilities on the balance sheet, usually alongside trade creditors, and are cleared when the supplier's invoice arrives.