Question

What are accruals? Are a firm’s accruals free or not? Why?

Answer 1

Solution =

Accrual -

The term "accrual" refers to any individual entry recording revenue or expense in the absence of a cash transaction. Accruals are a key part of the closing process used to create financial statements under the accrual basis of accounting; without accruals, financial statements are considerably less accurate.

Accruals involve the following types of business transactions:

• expenses, losses, and liabilities that have been incurred but are not yet recorded in the accounts, and
• revenues and assets that have been earned but are not yet recorded in the accounts.

With the accrual method, income and expenses are recorded as they occur, regardless of whether or not cash has actually changed hands. An excellent example is a sale on credit. The sale is entered into the books when the invoice is generated rather than when the cash is collected. Likewise, an expense occurs when materials are ordered or when a workday has been logged in by an employee, not when the check is actually written. The downside of this method is that you pay income taxes on revenue before you've actually received it.

Yes, A firm's accruals free , because,

Accrual accounting:

• Describes accurately sales transactions that are only partially completed, e.g.. where customers have received goods and services but not yet paid for them. Such situations are invisible to cash accounting.
• Makes possible the application of the matching concept, the idea that firms report revenues in the same period as the expenses that brought them.
• Has the advantage of immediacy. Because the firm records sales revenues then they earn them and expenses when they incur them, the company knows immediately what it can expect in both categories.
• Has one form of built-in error-checking. Accrual accounting is implemented with double-entry bookkeeping and accounting, in which the sum of total debits must equal the sum of total credits. This relationship is tested every reporting quarter and year during a trial balance period.
• Conforms to GAAP in most countries, as well as IFRS / IASB standards.