Accrual accounting records transactions in the period they relate to, regardless of when the money moves. Revenue is recognised when earned and expenses when incurred, even if payment comes later.
What it means
This gives a truer picture of a period's performance than waiting for cash. If staff work in March but are paid in April, accrual accounting puts the cost in March. It relies on accruals for amounts owed and prepayments for amounts paid in advance, and it is the basis required by accounting standards for most businesses.
Where it fits in
Payroll fits naturally into accrual accounting: a pay run's cost and the statutory liabilities are recognised when the run is processed, sitting in liability accounts until paid the following month. This matches the cost to the period the work was done.
Key rules
- Recognises income and expense when earned or incurred.
- Independent of when cash is received or paid.
- Uses accruals and prepayments to shift amounts to the right period.
- The basis required by accounting standards for most businesses.
