A Guide To Accrued Income (With Definition And Examples)

Updated 30 September 2022

Keeping proper financial records is one of the legal rights and responsibilities that organisations regularly perform to achieve and maintain long-term success. An in-depth understanding of the subject is often vital for preparing books of accounts and providing clarity and accuracy of these records. If you want to work in finance or accounting, you might benefit from learning more about the subject. In this article, we define accrued income, review a few examples and learn about its importance.

Definition of accrued income

The term accrued income or accrued revenue refers to money that a company earns by selling goods and services but does not receive the payment for on the same date. It is any income that the company recognises as income but cannot or does not realise until after a certain period. Businesses or individuals might also earn this type of income in other ways, such as investing or renting. For example, mutual funds or any other assets that collect revenue over time but only pay dividends to shareholders once a year are accumulating or accruing income.

Accrued revenue is a helpful accounting and finance solution. Most businesses typically employ accrual accounting for recording and taxation purposes. It is the revenue that a firm records in its accounts when they provide goods and services, regardless of whether the customer pays for them at the time of delivery.

Understanding accrued income

Most businesses use accrual accounting. It is an alternative to cash accounting and is crucial for businesses that sell goods or provide services on credit to clients. The revenue recognition principle supports the accrual accounting principle. This concept aims to match revenue to the period in which the businesses earned it rather than the period in which they received it in cash. They may also recognise revenue in the same period as the expenses incurred in producing that revenue, according to the matching principle.

For example, companies in the service industry mostly use it when they charge clients an hourly rate for completed work, but do not bill them until a later accounting period. Accountants list it in the balance sheet as a current asset that reflects a future profit to the firm in the form of an expected cash payment.

Examples of accrued revenue

Given below are a few examples of accrued revenue:

Example 1

Here is an example of accrued revenue earned through services:

RQ Ltd. collects and recycles products made of plastic for local communities in the city and charges each of its clients ₹6000 every six months. Despite not receiving payment for six months, RQ Ltd records a ₹1000 debit to accumulated income and a ₹1000 credit to revenue each month.

Though RQ did not bill their customers yet, they already completed the work, resulting in expenses and revenue. When a customer pays for the service in cash after six months, a ₹6000 credit applies to accrued revenue and a ₹6000 debit applies to cash. For the consumer, the balance of accrued revenue becomes zero.

Example 2

Here is a hypothetical example of accrued revenue earned as interests from investments:

Company Go invested ₹10,00,000 in bonds on March 1st with a rate of interest of 8%, paid quarterly. The firm that the former invested in, pays Company Go ₹20,000 in interest on 30th June, 30th September, 31st Dec and 31st March. As it was the first month, the company did not get the interest of ₹6667 (₹20,000÷3) outstanding on 31st March.

As the firm understands that interest for March is due, it is going to pay Company Go in the next quarter. Company Go receives the interest amount on 30th June. The amount of ₹6,667.00 is the accrued earnings for the company until 30th June.

Example 3

Below is an example of accrued revenue earned as EMI:

Deluxe Ltd, a car company, is promoting a luxury vehicle. The company is offering many schemes for its target demographic, to increase sales of the new car and attract customers. One such offer is the equated monthly instalment (EMI). This way, potential customers can buy luxury cars according to their finances. Deluxe Ltd can charge its customers zero interest with this instalment scheme. The revenue it generates by selling the car on EMI is the accrued earnings it receives over some time.

Example 4

Find below an example of accrued revenue earned by leasing machinery:

When private aeroplane owners do not use their aircraft regularly, they may frequently lease them out to earn some money. They can either dry-lease or wet-lease the planes. Dry-leasing, which is often more popular, refers to renting an aircraft without pilots, cabin crew, maintenance or insurance for a longer time. A wet-leasing agreement offers these conveniences, though for a shorter period. In either case, it earns the aircraft owner an accrued revenue.

Example 5

Find below an example of accrued revenue when customers purchase something on account:

Customers who buy products on account or pay for services on account are two instances when the transaction takes place earlier than the receipt of payment. Customers make purchases on account, which means they do so on credit. Even if they do not receive any money yet, businesses acknowledge that they are selling items or providing a service in these scenarios. They accrue this income. One example of this is when people buy groceries from the local grocery shop and pay for them later, generally weekly or monthly.

Example 6

Here is an example of income earned through an insurance policy:

When an individual buys an insurance policy, they generally pay a fixed amount as the premium every year for some years. When the maturity term is over, the policyholder or beneficiaries can claim the sum assured or maturity value, which is the money promised on the maturity of the policy. This is income that accumulates over the years and accrues during the scheme period.

Example 7

Below is an example of income earned through fixed deposit payouts:

When one invests in a fixed deposit account, they can earn an amount of interest, based on the amount they deposited as per the prevalent fixed deposit (FD) interest rates. This amount adds to the savings over time. The investor might receive the money at maturity if the FD is cumulative, that is, compounded annually. They can also choose to invest in a non-cumulative FD and get payouts monthly. This amount is an accrued source of income.

Example 8

Find an example below of accrued revenue for providing services:

Service providers like utility or telecom companies, for instance, generally charge the customers for their essential services, whether it is for electricity, water, gas or Direct-to-Home (DTH) connection. Even if the client pays in the next month, the company's accountant records the revenue when it bills the customer at the end of the month.

Example of a bookkeeping entry

Here is an example to understand bookkeeping for accrued revenue:

The interest a firm earns on investment is another form of accruing revenue. Consider the case of SmartMoney Pvt. Ltd., which invests an amount on 1st March. Every 1st March and 1st September, the investment pays ₹2,000 in interest. SmartMoney has earned one month's worth of interest on its investments as of the end of March, but it cannot get paid until September 1st. Accrued interest income here is the amount of interest earned but not collected by SmartMoney at the end of March, which is about ₹333.

There is a ₹333 credit to the 'interest income' account and a ₹333 debit to the 'interest receivables' account as the adjusted record in the balance sheet.

Why is accrual accounting important?

Accrual accounting is essential for providing an accurate picture of a company's financial situation. Whether or not a cash exchange occurs, a business documents all financial events and activities under accrual accounting. The company notes that it expects to receive income in the future for its services and goods on the balance sheet. The organisation can more easily measure its monthly achievements using this record. In addition, the organisation receives reliable information regarding its financial activity.

It can be easier to make key financial decisions relating to the company's success using such records. Outstanding income represents the possibility of positive cash flow in the future and helps companies plan accordingly. It also includes revenue earned by employees for work that they already did. This income recognises the number of working days or hours that an employee works for and records an equivalent income for which they are eligible.