ACCRUALS & PREPAYMENTS

Table of Contents
1. UNDERLYING PRINCIPLE ............................................................................................. 2

2. Accrued Expense ................................................................................................................ 2

3. Prepaid Expense (i.e. Prepayments) ................................................................................... 2

4. PREPAID INCOME ........................................................................................................... 3

5. Accruals and Prepayments – Effect on the Financial Statements ...................................... 4

QUESTIONS TO PRACTICE ................................................................................................... 5

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 1. UNDERLYING PRINCIPLE

N.B.: The Accruals Concept dictates that

revenue/expenses are accounted for in the Statement of
Profit or Loss when earned/incurred as opposed to
received/paid

We want to match expenses and revenues to the time

period which they relate to

2. Accrued Expense
An expense for which the cost has been incurred but
which has not been paid for by the end of the financial
period

3. Prepaid Expense (i.e. Prepayments)

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  An expense which has been paid in advance, but the expense
will not be incurred until the following period

4. PREPAID INCOME

 Prepaid Income or Deferred Income arises when Income

is received in advance or received in one accounting
period but which relates to the next accounting period

 So we remove it from the Current Year’s Income and set

it up as a Liability - Why Liability? Because effectively
Prepaid Income is owed by the business back to the
Payer

 Double Entry

o Dr Income (SOPL)
o Cr Prepaid Income (SOFP)

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5. Accruals and Prepayments – Effect on the Financial
Statements

 Accruals and Prepayments are period end adjustments to the

Trial Balance.

 Accrued Expense Increase an Expense

 Prepaid Expense Reduce an Expense

 Prepaid/Deferred Income Reduce Income

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QUESTIONS TO PRACTICE

Question 1: Ajeet prepared his draft end of year accounts. However, he has now realised that
he did not adjust these for a prepayment of $2,100 and an accrual of $800. How will Ajeets
profit and net assets be affected by including the prepayment and accrual??

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Question 2: A company receives rent from a large number of properties. The total received
in the year ended 30 June 20X2 was $1,203,000.

The following were the amounts of rent in advance and in arrears at 30 June 20X1 and 20X2

30 June 20X1 30 June 20X2

$ $

Rent Received in Advance 71,750 78,000

Rent in Arrears (all 53,000 46,000

subsequently received)

What amount of rental income should appear in the company statement of profit or loss
for the year ended 30 June 20X2?

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