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Running a business

A business owner's guide to accrued liabilities

As a small business owner, having a complete picture of your financial health is crucial for your success. Understanding accrued liabilities and how to properly account for them will help you make informed decisions, avoid any unpleasant surprises, and ensure your financial statements remain accurate.

In this comprehensive guide, we'll delve further into defining accrued liabilities, clarify their distinction from accounts payable, and explore some common examples.

Accrued liabilities defined

The term “accrued” refers to the accumulation of expenses over time, while “liabilities” denote obligations or debts. Accrued liabilities are, therefore, expenses that accumulate gradually and are recorded on a company's balance sheet when they are incurred, rather than when they are paid.

While the business has committed to these financial obligations, no cash has changed hands yet. Unlike current liabilities that must be paid right away, accrued expenses are settled in different accounting periods. Payment terms can be shorter, for example within 30 days, if there is a pre-existing agreement and the vendor owed has no claim to the assets of the business if they aren’t paid.

What are accrued liabilities?

Accrued liabilities are incurred for routine and non-routine business expenses that are not accompanied by an invoice or other documentation. There are two types of accrued liabilities:

  • Routine accrued liabilities are regular business operating expenses such as employee salaries or compensation that haven’t yet been paid, or interest payments on debts and loans.
  • Non-routine accrued liabilities include one-time payments for goods and services that have already been provided or delivered, such as machinery or inventory.

How do accrued liabilities work?

Here’s a practical example: Consider a scenario where a small business incurs $5,000 in employee salaries during the last week of the month, but processes payroll only at the beginning of the following month.

Although the cash outflow won’t occur until the subsequent month, the business must recognize the salary expense of $5,000 in the month the work was performed. During this interim period, the company incurs an accrued liability for the salaries owed and the expense is credited in an accrued liabilities account.

  • When the salaries are paid, the accrued liability disappears. The accrued liabilities account is debited for $5,000 and the expense account is credited for $5,000, resulting in a net-zero entry.

Accrued liabilities vs. accounts payable

Accrued liabilities are often confused with accounts payable, since they’re both listed as liabilities on the balance sheet and represent debts owing. However, they are distinctly different.

Accounts payable refers to amounts that a business owes to its suppliers for goods or services purchased on credit and for which it has already received an invoice. It deals with immediately owing disbursements, or short-term debts with specific billing terms.

In contrast, accrued liabilities encompass a broader range of obligations beyond supplier invoices and act as an estimate of future disbursements. They may include various accrued expenses such as salaries, interest, taxes, or utilities and don't necessarily arise from a formal agreement or invoice.

Instead, they accrue as a result of the passage of time or the occurrence of specific events. Accrual accounting recognizes revenues and expenses when they are earned or incurred, not when the cash is received or paid.

Why it’s essential to stay on top of your accrued liabilities

Monitoring your accrued liabilities can help your business manage its cash flow more effectively.

By accounting for expenses incurred but not yet paid, you’ll know exactly how much cash you actually have, which can prevent financial strain later. Deferring payments for costs incurred while you await revenue can help free up operating funds, but it’s also important not to allow accrued expenses to turn into long-term liabilities.

Accrued liabilities also impact a company's compliance with accounting standards and tax regulations. Understanding the nuances involved helps businesses adhere to reporting requirements and facilitates tax planning.

Need some personalized guidance to optimize your accrual accounting practices? Discover how QuickBooks can be a game-changer for your business. Start tracking your small business expenses with QuickBooks today to ensure you're always prepared for tax season!


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