Business profitability is determined by incomes as well as expenses. In any accounting procedures, expenditure and revenue should be allocated to an accounting period. This is done through the accrual and deferrals procedures. When adjusted, accounting records for accruals and deferrals sees to it that records are prepared on an accrual, as opposed to a cash basis, hence ensures that accounting procedures and records comply with the matching concept of accounting and the true company picture is reflected.
What is Accruals?
These are earned revenues and expenses that have an impact on financial records. They are classified into;
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Accrued revenue
This refers to revenue that are recorded in financial records once the transactions is carried out, regardless of whether cash has been received. For instance, in a case where a service is offered to a client, but actual revenue is yet to be received, the revenue is transferred to a revenue accrued account. After the payment is received, the revenue previously accrued is deducted based on the revenue received.
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Accrued expenses
These are expenses incurred by a business but are yet to be paid. In an instance whereby a company owes a supplier but is yet to pay, the expense is recorded in an accrued expenses account and is hence termed as a liability. When the payment is made, the accrued revenue is decreased.
What is Deferrals?
This is the payment of an expense incurred during a certain reporting period but is reported in another reporting period. This includes differed revenue and deferred expenses.
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Deferred revenue
This is used to spread revenue over time. For instance, a service that should be provided for six months may be paid in full in the first month. In this case, the lump sum payment is spread over the fiscal period by recording it a deferred revenue account.
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Deferred expenses
These are expenses spread out over the period in which they apply. For instance, 6 months’ rent paid upfront is reported in a deferred expense account and spread out over the six month period.
Similarities between Accruals and Deferrals
- Both relate to incomes and expenses in a fiscal reporting period
Differences between Accruals and Deferrals
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Definition
Accruals refer earned revenues and expenses that have an impact on financial records. On the other hand, deferrals refer to the payment of an expense incurred during a certain reporting period but are reported in another reporting period.
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Results
Accruals leads to a decrease in costs and increase in revenues. On the other hand, deferrals leads to an increase in costs and decrease in revenues.
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Objective
An accrual system aims at recognizing revenue in the income statement before the payment is received. On the other hand, a deferral system aims at decreasing the debit account and crediting the revenue account.
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Expenses
While accrued expenses are expenses that have not been paid but has already been incurred, deferred expenses are expenses that have not been incurred but payment has been made.
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Nature
Accruals occur before payments and even receipts. On the other hand, deferrals occur after payment has been made.
Summary of Accruals vs. Deferrals
Summary of Accruals vs. Deferrals
While accruals refer to are earned revenues and expenses that has an impact on financial records and aims at recognizing revenue in the income statement before the payment is received, deferrals refer to the payment of an expense incurred during a certain reporting period but is reported in another reporting period aims at decreasing the debit account and crediting the revenue account.