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Level 2 - prepayments and accruals

SJ
  • 15 posts
  • # 55126

Really struggling to get my head round prepayments and accruals, just can't seem to work them out, has anyone else struggled with this?

Think I need to give it a rest for a day or two and come back to it with fresh eyes so to speak 
  • 160 posts
  • # 55129

Hi SJ,

Prepayments and accruals are pretty easy. Prepayments are an asset and accruals are a liability, so prepayments are DR and accruals are Cr.

Then to work out prepayments, say if you owe rent of 1600 per year, and you have paid 2000, this means that you are 400 prepaid. Same principle with accruals.

Sometimes you have to work these out for the months or the period of quarterly periods. Say if you owe rent of 300 per month, and at month end you have paid 500, hence 200 prepaid, so dr prepaid 200, and cr rent 200.

Accruals are only a measurement of how much that you owe. So for instance if your rent is 150 per week and since last time you paid 2 weeks have gone past, you will owe 300. cr accruals account 300, dr rent account 300. the rent account is a measurement of how much rent you owe, as well as how much rent you pay.

Hope This helps

Paula Welsh 

  • Hello all,

    i just noticed we have a forum, just poking around the members area.  My name is Paula welsh and I have been a member since 2005, starting with Associate member and now a full member


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annepebo
  • Member PM.Dip
  • Practice Licence
  • 58 posts
  • # 55132

Hi SJ

Try to think of it like this

At the end of the year (or any other period you are finishing off) you would :-
accrue for expenses which relate to the year but which you have not yet paid
and prepay expenses that you have paid but do not relate to the year

At the end of the year you will only want to show in the profit & loss account the actual costs that relate to year in question.  This is known as the accruals concept so that you state actual profit rather than 'income & expenditure' which really just records movement in bank and cash.

Ususally costs such as rent & rates are prepaid whereas telephone, heating and possibly wages may need to be accrued for.

So if you are finishing off your year end and have not yet paid for say Telephone calls for the last month of the year , it is advised to debit telephone cost with the amount you should have paid but the credit entry is accruals rather than bank or creditors because you havent actually paid it or got the bill for it at the year end.

Prepayments are if you have paid for something in advance (like rent as Paula mentiond) you need to ensure that only the rent which relates to the year in question shows in the P&L.  So if you have recorded a transaction for rent which covers a period beyond the year end, then you need to credit the rent account by the amount that relates to the next year to reduce the rent cost accordingly and debit the prepayment account.

Once the year end is finsihed you will need to reverse these entries with dates in the new year so that the following year is accurate too.

I thought this would be a quick post but it has got rather long winded, hope I've not confused you even more and I've helped a litlle.

Edited at 13 Mar 2011 09:40 AM GMT
SJ
  • 15 posts
  • # 55133

Thank you for all your replies, I understand the concept of them alot better now from your explanations, my struggle now is a question I'm faced with on an assignment :

Year end 30 September

Insurance account prepaid as at beginning of year 800

15/11 Insurance (12 months in advance to 30 November next year) 5,400

Calculate the figures for prepaid charges

This question has totally stumped me, and I think its because they have included the word next year.

I'm not looking for the answer just some guidance on how to come about calculating it.

Many Thanks 

The answer I come to was £900 but very unsure if thats correct.

Edited at 13 Mar 2011 10:28 AM GMT

Edited at 13 Mar 2011 10:29 AM GMT

Edited at 13 Mar 2011 10:30 AM GMT
annepebo
  • Member PM.Dip
  • Practice Licence
  • 58 posts
  • # 55134

Hi SJ

right we have transactions which span three years lets call them
year ending 30 September xxx1 (last year)
year ending 30 September xxx2 (this year/current year)
year ending 30 September xxx3 (next year)

you have £800 in prepayments from xxx1 which relates to xxx2
in November xxx2 the insurance includes 2 months for xxx3 - lets say this is £1000

So the prepayment at 30 September xxx2 would be £1000

It's a long time since I have had to put this in 'exam answer format' - In real life I think I would show all the seperate entries but in an exam answer I'm not so sure but likely just show the change in the balance as follows, but please follow your course providers guidance.

Insurance account - credit £200
prepayment account - debit £200
This would leave £1000 as a new balance in prepayments at 30 September xx2.

Alternative
Insurance account - insurance prepaid at YExx1 - Debit    £800
Insurance account - insurance prepaid at YExx2 - Credit £1000
Prepayments account - increase prepaid insurance at yE xx2 - Debit    £200


Good luck
SJ
  • 15 posts
  • # 55135

Thanks thats a great help and much appreciated Smile
  • 698 posts
  • # 55154

Hi All

I have read the replies with interest. Neither of the replies hit the fundemental knub of prepayments and accruals let alone touched on the fact it forms part of the basic UK GAAP and FRS 18.

One of the unpinning pricinipals of preparing accounts os to match costs and revenue streams within the same period. This main reason for this is so that the profit is a true and fai view and is not distorted.

The whole point of accruals and prepayments is to ensure costs and income are matched to the period in which they were incurred.

If you have incurred a cost but not received an invoice then you would accrue for that cost if you have received an invoice for services (Usually rent or insurance) in advance and all or a proportion of the invoice exceeds the period end then you would prepayment the relevant part.

I hope this is of some help

Kind regards
Stuart

  • Forum Moderator, South East & Greater London Regional Chairman

  • Quote
  • Member PM.Dip
  • Practice Licence
  • 107 posts
  • # 55239

Does anyone know how to delete a post when you hit send twice?
Embarassed



Edited at 16 Mar 2011 11:21 PM GMT
  • Member PM.Dip
  • Practice Licence
  • 107 posts
  • # 55240

Hi SJ
I think I am just a little ahead of you in this course!  These questions do appear confusing at first but try and break them  down eg. 15/11 insurance 12 months in advance to 30/11 year 2 £5400 - as this is a full year divide the amount by 12 to get a monthly figure.  As the year end is 30/9 this is 2 months prepaid  - I'll leave you to do the math!

Hope this helps,
linx_p
gigagirl
  • 220 posts
  • # 55277

I've struggled to get these round the right way too, this is how I remember:
 If it's prepaid I think to myself "I've paid for that already so it's MINE" (therefore an asset).  Once I know that, I know an accrual is on the opposite side.  Just a little thing to help me remember - but I've not got it wrong since.
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