Not only has the company already received the benefit, it still needs to remit payment. Therefore, it is literally the opposite of a prepayment; an accrual is the recognition of something that has already happened in which cash is yet to be settled. Doube-entry accounting ensures that the total amount of debits equals the total amount of credits. Learn the basics of how this accounting system is reflected in journals and ledgers through examples, and understand the concept of normal balances. In double-entry bookkeeping, there are at least two accounts involved in the case of any recorded transaction.
While accrued expenses represent liabilities, prepaid expenses are recognized as assets on the balance sheet. This is because the company is expected to receive future economic benefit from the prepayment. An example of an accrued expense is when a company purchases supplies from a vendor but has not yet received an invoice for the purchase. Other forms of accrued expenses include interest payments on loans, warranties on products or services received, and taxes—all of which have been incurred or obtained, but for which no invoices have been received nor payments made.
Utilities Expense Debit or Credit?
There may be cases whereby a provider of utilities will require a deposit from a business prior to the provision of service. In this case, the business will record this deposit as an asset on its balance sheet instead of charging it to expenses. Utilities expense is the cost incurred by using utilities such as electricity, water, waste disposal, heating, and sewage.
- C/ Applicable to flat rate water service and telephone exchange service which are normally billed in advance and are included in accounts receivable.
- The expense is accumulated in a cost pool and then allotted to the units produced within a given period when the expense is incurred.
- If on Dec. 31, the company’s income statement recognizes only the salary payments that have been made, the accrued expenses from the employees’ services for December will be omitted.
- In determining the deduction from the operational cash requirement, it is necessary to determine an approximate level of earnings on which the federal income tax accrual will be developed.
- Companies must record utility expenses as operating expenses.
In most rate proceedings, the net taxable income at present rates is obviously on the low side. Often it is found that the taxable income at rates proposed by the applicant is on the high side. The level of earnings may be arrived at by applying a rate of return, recommended by the staff rate of return expert, to the rate base (excluding working cash allowance) which will give an approximate level of earnings after taxes. With the developed earnings after taxes, the amount of federal income taxes may be determined. Table 2-C sets forth the procedure in developing the income tax calculations for an incorporated utility.
It should be noted that accounts receivable of certain types of utilities may include charges for flat rate water service or telephone exchange service which are normally billed in advance of rendering service. In the case of a telephone billing to a customer, both exchange service (billed in advance) and message tolls (billed in arrears) are credited to accounts receivable. In determining a composite revenue lag under the “accounts receivable” method, all advance billings should be deducted from accounts receivable. The amounts included in most of these accounts are dependent on management’s judgment as to the level of working capital required by a particular utility. Therefore, the appropriate working cash capital will vary not only between different types of utilities, but between different utilities of the same type.
For example, a company wants to accrue a $10,000 utility invoice to have the expense hit in June. The company’s June journal entry will be a debit to Utility Expense and a credit to Accrued Payables. On July 1st, the company will reverse this entry (debit to Accrued Payables, credit to Utility Expense). Then, the company theoretically pays the invoice in July, the entry (debit to Utility Expense, credit to cash) will offset the two entries to Utility Expense in July. For companies that are responsible for external reporting, accrued expenses play a big part in wrapping up month-end, quarter-end, or fiscal year-end processes. A company usually does not book accrued expenses during the month; instead, accrued expenses are booked during the close period.
Average monthly operating expenses, excluding taxes, depreciation and uncollectibles, multiplied by a certain number of months. Expenses like salaries paid, machinery maintenance, and machinery rent do not form part of public utilities. Accrued expenses are not meant to be permanent; they are meant to be temporary records that take the place of a true transaction in the short-term. Every accrued expense must have a reversing entry; without the reversing entry, a company risks duplicating transactions by recording both the actual invoice when it gets paid as well as the accrued expense.
The detailed basis of determining working cash allowance is normally referred to as the “weighted average or lead-lag days” method. The methods of accruing expenses and dates of payment of expenses can be ascertained by the engineer in the review of the company’s accounting techniques and practices. For purchased commodities, the number of lag days is the time from the midpoint of the monthly expense accrual to the date of the payment. For company labor, the number of lag days is the time from the midpoint of the pay period to the date of payment.
Accrual accounting is the generally accepted accounting practice’s (GAAP) preferred accounting method. Since the normal balance of equity is credit, an expense must be recorded as a debit. At the end of the accounting period, the debit balances in the expense accounts will be closed and transferred to the owner’s capital account thereby bringing about a decrease in the owner’s equity. Having said this, since utilities expense is an expense, it is debited. Remember that expenses generally are increased by debit entries. In essence, utilities are indirect expenses for the business and are debited to record the expenses.
Example of Utilities Expenses
If the company receives an invoice for $5,000, accounting theory states the company should technically recognize this transaction because it is contractually obligated to pay for the service. Usually, businesses (as well as individuals), incur costs when they make use of things like electricity, water, etc., as these items are useful. For instance, a manufacturing firm or a cyber cafe cannot operate without a power supply, or a restaurant owner cannot operate without a water supply. The expenses incurred in order to use these items are tagged utility expenses. Utility expense is a head used in the income statement that accumulates various expenses. Typically, it includes electricity, water, gas, internet, and phone services.
However, there is another means of accounting – the cash basis. With cash basis accounting, the total amount recorded for the use of utilities for each period is based on the amount of cash that’s been paid for said utilities during the period covered. The summation of the product of each operating expense and its respective number of lag or lead days equals bookstime accounting the total dollar-day lag. Dividing the summation obtained above by the total expenses will result in the weighted average days of lead or lag of credit for the cost of service rendered and advanced by the utility’s suppliers, employees, and taxing agencies. Table 3-A, Sheet 2 of 5, illustrates the proper format in the development of the lag days.
Normally for small utilities “other funds not supplied by the investors” are not large enough to be significant and therefore are not considered in the study. Tax monies available to the utility as a source of working funds are normally federal income tax accruals. State income taxes are not considered primarily because they do not appreciably affect working cash requirement. If ad valorem taxes are accrued on a calendar-year basis, that is, preceding the local government’s fiscal year, one half of the annual amount should be included in the tax accruals available to meet working cash requirements. The utility must wait until the customer pays his bill before it is reimbursed for the cost of this service plus a profit.
This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. And since we still need to Pay for the expense at a future date, a PAYABLE will be created on the Credit side of the entry (thereby creating a LIABILITY on the Balance Sheet). Also, it is charged differently for commercial organizations. It is one of the basic utility services that every organization needs.
Over time, utility expense has decreased for most companies due to modern technology and better processes. However, it is still a crucial part of the income statement. This procedure includes only those cash items, furnished by investors, which are actually needed for operations and consist of minimum bank deposits and working funds. The cost incurred on public utilities such as electricity, water, gas, etc., and all other basic utilities necessary for commercial and household purposes, represents utility expenses.
However, if appropriate accounting records are unavailable, the “statistical sampling” method may be used. Utility expenses encompass public services required to operate a business or carry out household activities. In the context of household expenses, they encompass essential costs for comfortable living, such as water, electricity, gas, and maintenance.
In other words, the total amount recorded for the use of utilities for each period is based on the amount of cash that the business/company has paid for the said utilities during the period covered. By implication, the cash basis may mean that the expense is recorded in a later period. For example, companies must separate utilities relating to administrative work from that used in production. The latter becomes a part of the cost of sales while the remaining amount gets treated as an operating expense.