ACCA Applied Knowledge · Financial Accounting

Accrued expenses (accruals), prepaid expenses (prepayments), accrued income and deferred income: formula sheet

Full chapter guide

Key formulas

Expense for the year: Expense = Cash paid in year + closing accrual − opening accrual; Use this when opening accrual exists. The opening accrual relates to last year, so remove it.
Accrual journal at year end: Dr Expense account; Cr Accruals (current liability); For the amount incurred but unpaid at the reporting date.
Accrual from a period of usage: Accrual = Amount per period × unpaid periods used; For example, monthly rent of $500 × 3 unpaid months = $1,500.
Opening accrual in the new year: Dr Accruals; Cr Expense account; Reverses last year's accrual at the start of the new year. Cash paid is then debited to the expense.
Prepayment amount: Prepayment = Total amount paid × (months unexpired ÷ total months covered); Unexpired months are those after the reporting date. Use days or months, whichever the question gives.
Expense for the year (ledger): Statement of profit or loss expense = Cash paid in year − opening accrual + closing accrual + opening prepayment − closing prepayment; Opening prepayment is added because it is used up this year. Closing prepayment is deducted because it belongs to next year.
Year-end journal: Dr Prepayments (current asset) Cr Expense account; Reduces this year's expense and creates the asset.
Opening reversal journal: Dr Expense account Cr Prepayments; Done at the start of the next year. The prior year's prepayment is now used up.
Income for the period: Income = Cash received - opening accrued income + closing accrued income + opening deferred income - closing deferred income; Use this to find the statement of profit or loss figure from cash received.
Accrued income entry: Dr Accrued income (current asset) / Cr Income; Increases income for amounts earned but not yet received.
Deferred income entry: Dr Income / Cr Deferred income (current liability); Reduces income for amounts received but not yet earned.
Reversal of opening balances: Opening accrued: Dr Income / Cr Accrued income. Opening deferred: Dr Deferred income / Cr Income; Done at the start of the new period so cash is matched to the right year.
Ledger account layout: In the income account: deferred income c/d is a debit (it reduces income). Accrued income c/d is a credit (it increases income). The balancing figure is the transfer to profit or loss.; Income is a credit balance, so the adjustments that reduce income go on the debit side and the ones that increase income go on the credit side. Opening deferred income is a credit and opening accrued income is a debit.
Expense charged to profit or loss: Cash paid + closing accrual + opening prepayment − opening accrual − closing prepayment; Use this as a check on your ledger account. It is the balancing figure when the account is written up.
Income recognised in profit or loss: Cash received + closing accrued income + opening deferred income − opening accrued income − closing deferred income; Mirror image of the expense formula.
Expense account: closing balance side: Accrual: balance c/d on the debit side, balance b/d brought down on the credit side (closing credit balance). Prepayment: balance c/d on the credit side, balance b/d brought down on the debit side (closing debit balance).; Balance c/d is always on the opposite side to the balance b/d brought down. An accrual is a credit balance, so c/d is on the debit side and b/d is on the credit side. A prepayment is a debit balance, so c/d is on the credit side and b/d is on the debit side.
Journal for an accrued expense: Dr Expense; Cr Accruals (payables); Reverses by opening balances in the next period.
Journal for a prepayment: Dr Prepayments (receivables); Cr Expense; The expense falls and an asset is created.
Journal for accrued income: Dr Accrued income (receivables); Cr Income; Income rises because it is earned but not yet received.
Journal for deferred income: Dr Income; Cr Deferred income (liabilities); Income falls because part is not yet earned.

Quick revision

Accruals concept: record income and expenses when earned or incurred, not when cash moves.
Accrued expense: used but unpaid, so a current liability and an extra charge to profit or loss.
Prepaid expense: paid for a future period, so a current asset and a reduction of the charge.
Accrued income: earned but not yet received, so a current asset and extra income.
Deferred income: received for a future period, so a current liability and a reduction of income.
Expense for the year = cash paid + closing accrual − opening accrual − closing prepayment + opening prepayment.
An opening accrual is a credit balance brought down and an opening prepayment is a debit balance brought down.
Closing balances are carried down in the ledger and become next year's opening balances.
Time-apportion annual payments by the months that fall in the period.
Accruals and prepayments change profit; they do not change cash.
Always check whether the question asks for the profit or loss charge or the statement of financial position figure.

Common mistakes

Charging the cash paid as the expense without adjusting. Fix: Always ask what period the cost covers. Adjust cash paid for opening and closing accruals.
Subtracting the closing accrual instead of adding it. Fix: An accrual means more cost than paid, so add it. A prepayment means less cost than paid, so subtract it.
Counting the months already used instead of the unexpired months Fix: Draw a quick timeline. Mark the year end and count only the months to the right of it.
Treating a prepayment as a liability Fix: Remember: prepaid means paid ahead, so you hold a right. It is a current asset.
Treating accrued income as a liability, or deferred income as an asset. Fix: Accrued income is owed to you, so it is an asset. Deferred income means you owe service, so it is a liability.
Adding deferred income to income instead of deducting it. Fix: Only the earned part is income. Deduct the part received for the future period.
Adding a prepayment to the expense instead of deducting it. Fix: A prepayment relates to a future period, so it reduces this year's expense. Ask: has this cost been used up yet?
Ignoring the opening balance from the prior year. Fix: Always check for opening accruals and prepayments. An opening accrual reduces this year's expense because last year's charge already covered part of the cash paid.

Exam tips

In objective tests, read whether the question asks for the expense or the liability. Both come from the same working but are different numbers.
For number entry questions, show the working on your scratch paper using paid + closing − opening so you do not mix signs.
For multiple response items, test each statement against the rule: accruals are liabilities, they increase expenses and reduce profit.
Look for wording such as 'in arrears', 'unpaid at year end' and 'brought forward'. These tell you an accrual is involved.
Check the effect on profit: an unrecorded accrual means profit is overstated and liabilities are understated.
Read the year end date first, then the cover period. Most errors come from miscounting unexpired months.
In multiple response questions, check carefully which statements correctly describe a prepayment (an asset) and an accrual (a liability).
In number entry questions, write down the opening balance adjustment before you calculate. Missing it is the most common lost mark.