What Are Accrued Liabilities? (With Types And Examples)

Updated 13 October 2022

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Accounting for business expenses is an essential part of measuring and understanding a company's financial health. One type of business expense is called accrued liabilities, which occur when a company incurs the expense during a specific period and it has yet to pay the bill. If you are interested in working in finance, such as by becoming a financial analyst, understanding accrued expenses can help you create an accurate overview of a company's financial status.

In this article, we discuss what these liabilities are, list the types of these liabilities, show how they differ from accounts payable and provide answers to frequently asked questions about them.

What Are Accrued Liabilities?

Accrued liabilities are expenses a business owes or might pay within an accounting period. They can be short-term or long-term liabilities. This concept is popular amongst organisations that use accrual accounting. In this method of accounting, an organisation records the expenses incurred for a product or service during a transaction period, even if it does not make payments. The method eventually records expenses as and when they occur, irrespective of when the expenses get paid. For instance, if a company receives raw materials on Apr. 20 and makes a payment on Jun. 4, it accounts for the expense in April.

Accrual accounting differs from cash-based accounting, where the expenses get recorded when the company makes the payment. The company reduces the expense from the general ledger or transaction record when the company renders payment. A financial analyst uses this type of liability to gauge a company's financial obligation, even though it is challenging to determine the amount of cash a business has.

Types Of Accrued Liabilities

Here are different types of accrued expenses that can help in maintaining records for the accrual accounting:

Recurring or routine accrued expenses

Recurring or routine accrued expenses are part of a business's day-to-day operations. For instance, wages and salaries are recurring liabilities that a company makes payments after recording them as expenses in the accounting books. Another example of accrued expenses is interest payable to creditors, such as loans. Loans are accrued expenses that a company might be liable to pay the interest but might not pay them until the next accounting period. Such liabilities can help in financial forecasting.

Infrequent or non-routine accrued expenses

Infrequent or non-routine accrued expenses are expenses that a company might not incur regularly or might not expect. For example, late payment on invoices is an example of infrequent accrued expenses because they are not a part of daily business operations. Another example is a one-time purchase from a supplier who delays in sending the bill. A financial analyst might monitor these accrued expenses if they determine the company's liability. These liabilities are unpredictable. Liquidity can help a company understand how easily it can convert its assets or securities into cash.

Accrued Expenses Vs Accounts Payable

Accrued expenses and accounts payable are current liabilities for an organisation, but they differ from each other. While accrued expenses are liabilities that a company has yet to pay for, accounts payable are those that it has already billed. Typically, accrued expenses do not get billed because they might recur. Common accrued expenses include payroll, wages, and instances when the company does not receive a bill from a supplier.

For instance, if a company receives a bill from a material supplier and has yet to receive it, the expense gets recorded as accrued expenses. If the company receives the bill and material from the supplier before the end of the accounting period, it records the expense as accounts payable. The company then issues payment for the total amount before or on the due date.

How Do Accrued Expenses Work?

An accrued expense does not have a current balance due because it requires payment in the future. Accrued expenses can work in two phases:

Initial entry: When an accrual expense occurs, an accountant makes a journal entry in the financial ledger. This is the initial entry and the expense occurs as credit in a company's liabilities account and debt in the expense account.
Resolution: On receiving a bill for its accrued expenses, the accountant debits the amount from the liabilities section and credits it to the expense account. The final effect is a net-zero entry.

For instance, when a company purchases raw materials and machinery for ₹50,000, the machinery supplier may not bill for the machinery because the company is not going to receive it for several months. The accountant credits the ₹50,000 in the accrued expense account. When the bill is due, the accountant deducts the amount from the liability's account. When the company makes the last payment, the accrued expenses disappear from the financial statement.

Examples Of Accrued Expenses

Here are some examples of accrued expenses that can help you accurately maintain accrual records:

Pensions

A pension is a regular monthly income an employee earns after their retirement. Employees receive this pay before a company distributes it. An employer records it as accrued expenses. Pension payments are recurring in nature, though they might sometimes be infrequent or non-recurring.

Management bonuses

Employees working in management positions often earn bonuses for exceeding performance expectations. Such bonuses are accrued expenses, meaning they are a bonus earned during an accounting period and received in the next accounting period. For instance, an employee might get a bonus for July's performance in August. If the employer uses the accrual accounting method, they record the bonus in July but make payments to employees in August.

Payrolls

Wages and salaries are expenses because they involve making payments for work already completed. Many companies pay employers in the next accounting period. For instance, companies that pay employees weekly might account for payroll obligations before sending payments to their employees.

Utilities

Utilities are expenses for a business because companies pay for them after service delivery and record them in the accounting books before they receive the bill. For instance, a company might pay in August for electricity consumed in July. Other metered expenses, such as water and gas, also come under accrued expenses. Prepaid utilities, such as phones or electricity, do not count as accrued expenses.

Advertising and promotions

A business typically considers advertising and promotions costs as accrued expenses if it records them before billing. For instance, if a company has an agreement with a marketing firm, it can estimate the total cost and record it when engagements occur. Then the actual payment can occur during the next accounting period.

Deferred payments

Deferred payments refer to advance payments a company might receive for the product or service delivered in the future. It can consider deferred payments as accrued expenses. For example, when a company uses a credit card to make a purchase, it records the amount as accounts payable after receiving a credit bill. Then it can record the transaction as accrued expenses.

Goods and services

Often, companies place orders and receive goods and services from suppliers without making immediate payments. The receiving company pays for these goods and services later in the accounting period. The accountant might record such transactions as accrued expenses.

FAQS About Accrued Expenses

Here are some frequently asked questions about accrued expenses:

Do you consider the accrued expense as a credit or debit?

Depending on the account, your accrued expenses can be a credit or debit amount. You credit the amount if you are working on the accrued expense account. When working on the expense account, an accountant debits this amount. After making the payment, the accountant accrued expenses and remove them from the accounting books.

In which financial documents do you include accrued expenses?

When a company pays the liability, it does not affect its cash flow. You can record a company's accrued expenses on its balance sheet. You can exclude these expenses from the cash flow and income statement. Typically, this can help in confirming the accounting method used by a company.

What are some common examples of accrued expenses?

Accrued expenses are liabilities like future salaries, interest payments, services that require payment in the future, lease payments and taxes. According to the principle of accrual accounting, accountants can record these expenses incurred without cash outflow. This allows accountants to adjust them at a later date.