Difference Between Accrual vs Deferral
There are certain accounting concepts that are generally used in the revenue and expense recognition policy for any company. Theses are adjusting entries which are known as accrual accounting and deferral accounting that are used by businesses often to adjust their books of accounts to reflect the true picture of the company.
Accrual vs deferral is a part of those types of accounting adjustment entries where there is a time lag in the reporting and realization of income and expense. Accrual occurs before a payment or a receipt and deferral occur after a payment or a receipt. These are generally related to revenue and expenditure largely.
Accrual of an expense refers to the reporting of that expense and the related liability in the period in which they occur. For example, water expense that is due in December, but the payment of that expense will be not be made until January. Similarly, accrual of revenue refers to the reporting of that receipt and the related receivable in the period in which they are earned, and that period is prior to the cash receipt of that revenue. For example, interest earned on the investment of bonds in December, but the cash will not come until March of next year.
On the contrary, Deferral of an expense refers to the payment of an expense which was made in one period, but the reporting of that expense is made in some other period. Deferred revenue is sometimes also known as unearned revenue which is not earned by the company yet. The company owes goods or services to the customer, but the cash has been received in advance.
For example, Company XYZ receives $10,000 for a service it will provide over 10 months from January to December. But the cash has been received in advance by the company. In that scenario, the accountant should defer $9,000 from the books of account to a liability account known as “Unearned Revenue” and should only record $1,000 as revenue for that period. The remaining amount should be adjusted on a month on month basis and should be deducted from the Unearned Revenue monthly as the services will be rendered by the firm to their customers.
Head To Head Comparison Between Accrual Vs Deferral(Infographics)
Below is the top 6 difference between Accrual Vs Deferral
Key Differences Between Accrual vs Deferral
Both Accrual vs Deferral are popular choices in the market; let us discuss some of the major Difference Between Accrual vs Deferral
- Accrual of revenue entry is passed by the business to book all the revenue at once. Deferral of revenue is generally referring to the spread over of revenue over time. Same is the case with expenses as well
- When a business pass adjusting entry of accrual it leads to cash receipt and expenditure. Deferral is recognition of receipts and payments after actual cash transaction has occurred
- Deferral of revenue leads to the creation of a liability as it is in most of the cases is treated as unearned revenue. On the other hand, accrual of revenue leads to the creation of asset mostly in the form of accounts receivables
- An example of deferred revenue is the insurance industry where customers often pay the money upfront. Whereas, accrued revenue is common in the service industry
Accrual Vs Deferral Comparison Table
Below is the 6 topmost comparison between Accrual Vs Deferral
|Accrual occurs before a payment or receipts||Deferral occurs after a payment or receipt|
|Accrued expenses are already incurred but not yet paid||Deferral expenses are already paid but not yet incurred|
|Accrual in related to prepone or an expense or revenue which leads to cash receipt or expenditure||Deferral leads to postponing of an expense or revenue which leads to placing of that amount in liability or an asset account|
|Accrual is incurring the expenses and earning the revenue without paying or receiving cash||Deferral is paying or receiving cash in advance without incurring the expenses or earning the revenue|
|The accrual method leads to an increase in revenue and decrease in cost||The Deferral method leads to a decrease in revenue and increase in cost|
|The end objective of the accrual system is to recognize the revenue in the income statement before the money is actually received||The end objective is to decrease the debit account and to credit the revenue account
Why do we need these adjusting entries?
These adjusting entries are used in every business to reflect the true state of accounts due to the matching principle of bookkeeping accounting. Matching principle says directly is a set of guidelines that directs the company to report each expense which is related to the income of that reporting period. These adjusting entries occurs before the financial statements of the reporting period are released. The reason to pass these adjusting entries is only that of the timing differences which is simply when a company incurs an expense or earn revenue and when they receive cash or make payment for it.
Types of Accruals
- Interest expense and interest revenue
- When a firm delivers a good or service before receiving cash
- When a firm generates a salary expense before paying the employee in cash
Types of expenses that are Deferred in Nature
The cash basis of accounting is only applicable to that kind of businesses where sales are not exceeding more than $5 million per year. The cash basis is very easy to use and generally, there is not much complexity involved in it as simply record of the transaction only when the cash is received in the business. Due to the simple nature of accounting cash basis is often used by small businesses to prepare their books of accounts.
On the contrary, Accrual basis of accounting is used by larger companies for several purposes first it is helpful for tax reporting purposes when the sales are exceeding $5 million. Also, accrual basis of accounting is necessary for audit purposes as the books all over the world are prepared on an accrual basis.
Accrual is a very important method to reflect the true position of the company, however, the cash statement also has its importance as it tells about the ability of the company to generate cash in the business. Hence both are an integral part of the accounting concepts.
This has a been a guide to the top difference between Accrual vs Deferral. Here we also discuss the Accrual vs Deferral key differences with infographics and comparison table. You may also have a look at the following articles to learn more –