Accrued & Prepaid Income (Cambridge (CIE) O Level Accounting)
Revision Note
Written by: Dan Finlay
Reviewed by: Lucy Kirkham
Transferring Income to the Income Statement
How do I record income in the income statement?
The accounting principle of matching states that income should be recorded for the financial period in which it is received
The value posted to the income statement for an income account should be the actual amount invoiced for that period
Entries are made in the income account:
During the financial period when payments are received
At the end of the financial period
Payments made during the financial period | At the end of the financial period | |
|---|---|---|
Account to debit | Cash or bank account | Income account |
Account to credit | Income account | Income statement |
Amount to record | The amount received | The amount due from customers for the financial period |
How do I calculate the amount to transfer to the income statement for an income?
In an exam, you will likely be given information about an invoice for an income for a period that does not fully align with the financial period
For example, the financial period might be from March 2023 to February 2024 but an invoice for an income might be for August 2023 to July 2024
Only the amount for August 2023 to February 2024 should be posted to the income statement
STEP 1
Find the amount due per monthDivide the total amount by the number of months in the invoice period
STEP 2
Find the amount of the invoice due in that financial periodMultiply the amount per month by the number of months that are also in the financial period
There might be multiple invoices which cover the financial period
Find the amount of each which is due in the financial statement
Add these amounts together to get the total amount due
Examiner Tips and Tricks
It can help to write out the months involved and identify which ones belong in the financial period.
Worked Example
Tomas is a trader. Tomas receives payment for commission on 1 March each year for the following 12 months.
On 1 March 2023, he receives $3 000 commission and on 1 March 2024 he receives $3 300 commission.
How much should Tomas include for commission in his income statement for the year ended 30 April 2024?
Answer
The invoice periods are from March 2023 to February 2024, and from March 2024 to February 2025.
The financial period is from May 2023 to April 2024.
$3 000 is for the 12 months from March 2023 to February 2024.
Current financial period | |||||||||||||||||||||||
M | A | M | J | J | A | S | O | N | D | J | F | M | A | M | J | J | A | S | O | N | D | J | F |
$3 000 commission for the year | $3 300 commission for the year | ||||||||||||||||||||||
Only May 2023 to February 2024 is included in the financial period.
STEP 1: Divide by 12 to find the monthly payment
$3 000 ÷ 12 = $250
STEP 2: Find the part of the total payment to be included in the income statement
10 months (M-J-J-A-S-O-N-D-J-F)
$250 ✕ 10 = $2 500
$3 300 is for the 12 months from March 2024 to February 2025.
Only March 2024 to April 2024 is included in the financial period.
STEP 1: Divide by 12 to find the monthly payment
$3 300 ÷ 12 = $275
STEP 2: Find the part of the total payment to be included in the income statement
2 months (M-A)
$275 ✕ 2 = $550
Add the two values together to find the amount for the income statement.
$2 500 + $550 = $3 050
Accrued Income
What is an accrued income?
An accrued income is an income that is still owed to the business at the end of a financial period
This is also called an accrual
The income is in arrears
Accrued income can occur at the end of a financial period when a business receives less than the amount due in that period
This commonly happens when the invoice period of an income does not align with the financial period of the business
The business might receive payment at the end of the invoice period
However, this might be after the end of the current financial period
An accrued income is an asset to the business
The business is owed money by its customers
How do I record accrued income?
The income account will have a debit balance if there is an accrual at the end of the financial period
This indicates that it is an asset, as the business is still owed money from customers for that period
The full amount that is due for the period is stated on the income statement
The amount that is accrued appears on the statement of financial position as a current asset
It is included in the amount for other receivables
Prepaid Income
What is a prepaid income?
A prepaid income is an income for the next financial period that is received in advance during the current end of a financial period
This is also called a prepayment
Prepaid income can occur at the end of a financial period when a business receives more than the amount due in that period
This commonly happens when the invoice period of an income does not align with the financial period of the business
The business might receive payment in full as soon as they issue an invoice
However, this invoice might also cover part of the next financial period
A prepaid income is a liability to the business
The business has received too much from the customer for that period
Technically, the business owes that money to the customer for that period
How do I record prepaid income?
The income account will have a credit balance if there is a prepayment at the end of the financial period
This indicates that it is a liability
The full amount that is due for the period is stated on the income statement
The amount that is prepaid appears on the statement of financial position as a current liability
It is included in the amount for other payables
Income Accounts with Accruals & Prepayments
How do I calculate the value to transfer to the income statement?
You could be asked to find the find value to transfer to the income statement
This is the amount that is due for that financial period
STEP 1
Start with the amount that has been received during the current financial periodSTEP 2
Deal with any amounts carried over from the previous financial periodSubtract the amount if it is an accrual
Because this amount was not due in the current period
It was due in the previous period
Add the amount if it is a prepayment
Because this amount is due in the current period
STEP 3
Deal with any amounts that will be carried over to the next financial periodAdd the amount if it is an accrual
Because this amount is due in the current period
Subtract the amount if it is a prepayment
Because this amount is not due in the current period
It will be due in the next period
How do I calculate the amount received from an income within a financial period?
You could be asked to find the amount received within a financial period
This might be different to the amount that is due for that period
The method is the opposite of the previous method
STEP 1
Start with the amount that is due for the current financial periodSTEP 2
Deal with any amounts carried over from the previous financial periodAdd the amount if it is an accrual
Because this should have been received in the current period
Subtract the amount if it is a prepayment
Because this was not received in the current period
It was received in the previous period
STEP 3
Deal with any amounts that will be carried over to the next financial periodSubtract the amount if it is an accrual
Because this has not been received during the current period
It will be received in the next period
Add the amount if it is a prepayment
Because this was also received during the current period
Examiner Tips and Tricks
ry to understand the logic behind the two methods above rather than memorising them.
If you need to find the amount to include on the income statement, then consider which amounts are due in the current financial period.
If you need to find the amount that has been received, then consider which amounts were received during the current financial period.
How do I calculate a missing value in an income account?
You can use a ledger account to find any missing value
Fill in the amounts that you know on the correct sides
Find the missing value which balances the account
You can use this method to find the amount received from an income as an alternative to the previous method
Worked Example
Hussain receives rent from Sayid.
On 1 January 2023, Sayid owed Hussain three months’ rent.
On 1 March 2023, Hussain receives a cheque from Sayid for $8 400 for 16 months’ rent.
Prepare the rent receivable account in the ledger for Hussain for the financial year ended 31 December 2023. Balance the account and bring down the balances on 1 January 2024. Clearly show the amount that is transferred to the income statement
Answer
Sayid paid for 16 months:
12 months for the financial year
three months for the arrears at the start
one month prepaid for the next year
Find the accrual at the start of the year.
STEP 1: Divide the payment by 16 to get the monthly rent
$8 400 ÷ 16 = $525
STEP 2: Multiply the monthly rent by 3 to find the accrual at the start of the year
$525 ✕ 3 = $1 575
Find the amount due for the year ended 31 December.
Multiply the monthly rent by 12
$525 ✕ 12 = $6 300
Identify which side of the rent receivable account to post each transaction:
The payment from Sayid will be credited to the rent receivable account
Because it will be debited to the cash book
There is an accrual at the start of the year, which represents an asset
Therefore the opening balance will be on the debit side of the rent receivable account
The amount for the year is credited to the income statement
Therefore the rent receivable account will be debited
There is a prepayment at the end of the year, which represents a liability
Therefore there will be an opening balance on the credit side for the next year
Therefore, the closing balance will be on the debit side for this year
Hussain
Rent Receivable Account
Date | Details | $ | Date | Details | $ |
2023 Jan 1 |
Balance b/d |
1 575 | 2023 Jan 1 |
Bank |
8 400 |
Dec 31 | Income statement | 6 300 | |||
Dec 31 | Balance c/d | 525 |
| ||
8 400 | 8 400 | ||||
2024 Jan 1 |
Balance b/d |
525 |
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