Lesson 2 accruals and prepayments

So you’re learning accruals and prepayments, and the tables in the book mean absolutely nothing to you!

I’ve been there, and I know when we were taught AAT Level 3 most of the students in my class just couldn’t get there head around the reason for an accrual and why they had to do it to pass AP2!

So this is my in a nut shell blog on how to think of them and how to work them out.

Accruals

 An accrual is an expense transaction for a service we have not received an invoice for.

For example Electricity, Gas, Insurance, telephone bills are mostly invoiced quarterly. Therefore we may be using a service and be billed for it at a future date. To save us being hit for a lump sum cost, and as accounts are usually updated on an accruals basis we will work out the expected costs per month and recognise that by posting an accrual

The transaction is an expense, and as in my previous blog all expenses are debits. Therefore we would debit the expenses code in the P and L, and credit the accruals code in the balance sheet. That completes our double entry.

In this example I will use an electric bill for 3 months £300.00, £100 Per Month.

DR                                 Expenses £100

CR                                 Accruals   £100

In the example above I have accrued for 1 month, but if next month we have still not received an invoice I would release this accrual and accrue for two months, and so on, until I receive an invoice. Once the invoice is received you need to release your accrual by posting the opposite journal

DR.                                  Accruals £10
CR.                                 Expenses £100

Prepayments

Prepayments however are expenses we have already received an invoice for, but the invoice has a future period on it. Using the same example above if today’s date was 31.03.15 and I had received an electric bill dated 01.03.15 to the 30.06.15 I would divide the bill by 3 months (this can also be split by days depending on your company policy) and post 1 months’ worth to the expense code and 2 months’ worth to prepayments

DR Expenses          £100

DR Prepayments     £200

CR Trade Creditors £300

It really is as simple as that. If you can remember that all expenses are debits then to accrue is to DEBIT and to Prepay is to push that debit to a future period so CREDIT.

Hope this helps with any accrual and prepayments issues

If there are any other examples you need let me know

Nicola Cima Dip MA
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