Definition
Accrued income refers to earnings that have been recognized but not yet received. In accounting, this is where revenue is recorded in the books before payment is collected. It is considered an asset for the company as it is expected to be received in the future.
Key Takeaways
- Accrued Income refers to the amount of income that is earned but not yet received. It is recognized in the books of accounts at the end of an accounting period.
- It is treated as an asset for a business because it is expected to be received in the future. Therefore, it is recorded on the asset side of a company’s balance sheet.
- Accrued Income will impact a company’s net income since it is considered revenue for the company, despite not being actually received. Once it is collected, it’s shifted from Accrued Income to Cash on the balance sheet.
Importance
Accrued income is a crucial financial term as it represents the revenue that has been earned but not yet received.
From a financial accounting standpoint, it ensures that income and expenditure are respectively recorded in the correct accounting period.
This is in line with the accrual accounting concept which requires financial transactions to be recorded in the period they are earned or incurred, irrespective of the receipt or payment of cash.
Understanding accrued income aids in showing the company’s total earning for a particular period, thus impacting decision-making, performance evaluation, and the financial health presentation.
Its omission may lead a company to portray lower revenues, thereby perhaps undervaluing its financial position and performance.
Explanation
Accrued income primarily serves as a reflection of the earning a company has made irrespective of whether it has received payment or not. Essentially, it plays an invaluable role in demonstrating a more timely and accurate depiction of a company’s financial health and profitability.
It helps firms to align their earnings with the related costs in the same accounting period, thereby providing a more accurate picture of their financial performance. This is of high importance in businesses where there may be a significant time lag between the rendering of services and the receipt of payment.
Moreover, accrued income is used to ensure a business adheres to the fundamental principles of accrual accounting. It assists in portraying a clearer and more precise picture of a firm’s short-term financial health, affecting the cash flow management, tax positions, and financial planning.
By registering revenue only when it is earned, it helps the company avoid artificially high profit spikes in periods when payment is received. Therefore, from an investment perspective, this gives potential investors a better understanding of a company’s regular income, aiding them in decision-making.
Examples of Accrued Income
Rental Property: If you own a rental property, the rent that the tenants pay each month is accrued income. For example, if your tenant pays $1,000 per month, but pays on the 30th of each month, then by the 15th day of the month, you have $500 of accrued income. This is the income you have earned but is yet to be received.
Interest Earned on Savings Account: If you have a savings account, the bank generally pays interest on your bank balance. This interest is typically accumulated over time and paid at regular intervals, such as monthly, quarterly, or annually. So, if it’s halfway through the month, then you would have some accrued income in the form of the interest that has been earned but not yet paid into your account.
Bonds or Securities: If you own a bond or security that pays interest periodically, you accrue income between payment dates. For example, if you own a bond that pays interest every six months, then every day that passes between these payment dates, you earn a little bit of interest, which is accrued income. This income is yours (you’ve earned it), but you won’t actually receive it till the next payment date.
FAQ for Accrued Income
What is Accrued Income?
Accrued income refers to the earnings from investments that have been gained but not yet received by the investor. The earning occurs over a period of time and is recognized gradually.
How is Accrued Income calculated?
Accrued income is usually calculated based on the actual income generated for the period, not the cash received. It includes things like interest earned, but not yet paid, and services performed, but not yet billed or paid.
Is Accrued Income taxable?
Yes, accrued income is usually subject to taxes to be paid in the tax year in which the income was earned, even if the income has not been received yet. This principle is based on the accrual basis of accounting, not the cash basis.
What is the difference between Accrued Income and Deferred Income?
While accrued income refers to money that is earned but not yet received, deferred income refers to money received in advance before it’s earned. Both involve the concept of recognition of income at a different time than when cash transaction occurs, but accrued income involves receiving money in the future for work done now, whereas deferred income involves receiving money now for work to be done in the future.
How does Accrued Income impact financial statements?
Accrued income affects both the income statement and the balance sheet. On the income statement, it increases the income for the period, which, in turn, increases net income. On the balance sheet, accrued income is usually recorded as an asset, since it represents a future benefit to the company in the form of a future cash inflow.
Related Entrepreneurship Terms
- Accrual Based Accounting: A method of accounting where income is recognized when it is earned and expenses are recognized when they are incurred, not when the money is received or paid.
- Unearned Revenue: Money received for services or products that have yet to be provided.
- Deferred Income: Income that has been received but not yet earned. Also known as prepaid revenue or unearned income.
- Balance Sheet: A statement that shows an individual’s or business’s financial condition by depicting their assets, liabilities and equity at a specific date.
- Interest Income: The income that one earns from lending money or through an interest-earning bank account.
Sources for More Information
- Investopedia: An expansive finance and investment resource offering a range of content including news, articles, financial dictionary, and video tutorials.
- Accounting Tools: A comprehensive resource for exploring financial accounting and auditing topics.
- CFA Institute: The global association of investment professionals that sets the standard for professional excellence in finance.
- Corporate Finance Institute: An institute offering online certification courses and resources for finance professionals.
