Prepaid Expenses, Accrued Income and Income Received in Advanced

The compilation of these Financial Statements Notes makes students exam preparation simpler and organised.

Prepaid Expenses, Accrued Income and Income Received in Advanced

As we know that accounting is done on the basis of the Accrual concept. As per this concept, we not only record the transactions that are in cash only but also those which relate to the accounting year whether in cash or not. In order to determine the correct profit and loss and the true and fair financial position at the end of the year, we need to account for all the expenses and incomes pertaining to the current accounting year. Thus, Outstanding Expenses, Prepaid Expenses, Accrued Income, and Income Received In Advance require adjustment.

Outstanding Expenses

Sometimes in the normal course of business, an enterprise may have some expenses relating to which the payment is due at the end of the year. We know these expenses as Outstanding Expenses.

Wages, salary, rent, interest on the loan, etc. are examples of such expenses that may remain due at the end of the accounting year.

However, we need to record them as they relate to the incomes of the current year. Like all other expenses, they are also a charge against the profit of the current year.

The Journal entry to record outstanding expenses is:

The Outstanding Expense A/c appears on the liability side of the Balance Sheet. While preparing the Trading and Profit and Loss A/c we need to add the amount of outstanding expense to that particular expense.

Prepaid Expenses

In the normal course of business, some of the expenses may be paid in advance. However, the organization may not receive the benefits from these expenses by the end of the current accounting year. We call these expenses as prepaid expenses. We treat them as current assets.

The Journal entry to record prepaid expenses is:

The Prepaid Expense A/c appears on the assets side of the Balance Sheet. While preparing the Trading and Profit and Loss A/c we need to deduct the amount of prepaid expense from that particular expense.

Accrued Income

It may so happen that we may earn some incomes during the current accounting year but not receive them in the same year. Such income is accrued income.

Thus, these incomes pertain to the current accounting year. Therefore, we need to record them as current year’s incomes.

The Journal entry to record accrued incomes is:

The Accrued Income A/c appears on the assets side of the Balance Sheet. While preparing the Trading and Profit and Loss A/c we need to add the amount of accrued income to that particular income.

Income Received in Advance

In the ordinary course of a business, it may receive some income in advance in spite of not rendering the services. Such incomes are incomes received in advance. Thus, these are not pertaining to the current accounting year. Therefore, these are current liabilities.

The Journal entry to record income received in advance is:

The Income Received in Advance A/c appears on the liabilities side of the Balance Sheet. While preparing the Trading and Profit and Loss A/c we need to deduct the amount of income received in advance from that particular income.

Example:

Question:
From the following information pass the necessary journal entries relating to the items of expenses and incomes. Also, show their treatment in the Trading and Profit and Loss A/c and the Balance Sheet.

1. Interest on loan expenses ₹150000. The interest of ₹50000 is outstanding.
2. Wages expense ₹72000. Out of this wages of ₹12000 pertains to the next accounting year.
3. The commission received ₹15000. The amount of commission earned but not received is ₹5000.
4. Rent received ₹50000. Rent of ₹10000 is received in advance.

Answer:
Journal Entries

Trading and Profit and Loss A/c (extract)
For the year ending….

Balance Sheet
As at …