Introduction:
Suppose you are a Gym owner and have spent a great deal of money on Gym equipment. So you can only do this in case you are completely sure that the members of your Gym will eventually pay for the convenience of using the equipment purchased.
So as your business grows, you will recover your money with profit. The proper term here used is Accrued Income. Some other areas where you will come across this term are paying rent of your apartment, investing in mutual funds, etc.
In this article, let us understand the accrued income, examples, and usages.
What is Accrued Income?
Accrued income refers to the money you have earned but has to be received in the future within the specified accounting period. Many individuals or firms are investing in mutual funds, or multiple companies decide to come together and pool their assets to invest in mutual funds in the hope of earning income in the possible future.
Some multiple firms and companies also bring about the income without actually having it, as it comes under the accrual accounting system.
Now after understanding the accrued income meaning, let’s check out how to calculate it with the help of a formula.
Formula:
Accrued income is based upon the accounting equation, which says that the total sum of liabilities and the holder’s capital equals the total assets of the business firm. It will help if you read more about Profit & Loss A/c. For this, an accountant must pass the debits journal entry and read more accrued Income A/c and credit Income A/c.
Calculation:
There are three ways through which accrued income can take place in any business:
#1 Rent Income
Rent income also comes under the Accrued Income, although policies may vary.
For example, Arya Real estate built a multi-story apartment and decided to give it on rent every quarter instead of taking the rent monthly. In this scenario, the rental income treatment is considered the Accrued Income. This is because it will generate revenue for two straight months simultaneously, but Arya Real Estate will receive its income in the Third month of the same quarter.
#2 investment
The retail investors and company also generate income on investment, which is yet to be received in the future.
For example, Tesla invested $500,000 in Morgan Stanley bonds at a 4 percent interest rate on 1st January. Morgan Stanley will now pay interest of $10,000 to Tesla on 30th June and 31st January.
Tesla, which invests a sum of $500,000 at the end of the first month on 31st January, will not receive a sum of $1,667 in the same year. So till 30th June, the amount received by Tesla on 31st January will be an accrued income for the company as Tesla knows that they received a sum of $1,667 on their investment on Morgan Stanley bonds. Still, they will receive their accrued income in the future.
#3 Income from Services
It happens when the service provider agency provides its services to their respective clients, and the clients here promise the company to pay in the future for their services; in general terms, it is regarded as the accrued income. Now let’s further understand the concept with the help of an example of accrued income.
Accrued Income Example.
The Rana insurance company has rented Wilmer limited a $6,000 per month. On 31st December 2021, Rana Insurance showed the total outstanding rent of $12,000, which was received on 15th January 2022.
Its Journal entry will be:
#When income will be accounted for.
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|---|---|---|---|
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31st December 2021.
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Accrued Income A/C
|
Debit
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$12,000
|
|
|
Income Account A/C
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Credit
|
$12,000
|
|
Accrued Income accounted for
|
|
|
#When Payment is received.
|
|
|||
|---|---|---|---|
|
Cash A/C
|
Debit
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15th January 2022
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$12,000
|
|
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Accrued Income A/C
|
Credit
|
$12,000
|
Limitations:
- Accrual accounting will be a demanding and hectic job for small businesses as hiring an expert to manage such core technical accounts is required.
- The lengthy reporting is the essential requirement for the Accrued Income, which is a complex and time-consuming process as it is opposed to accounting done on a cash basis. It generally happens when it comes to the splitting of the interest income and accrued income over a longer time.
- Accrual accounting does not let businesses escape from taxes by any means. So the thing here to keep in mind is that you should recognize the income before it is earned. You also must pay taxes on that certain income before it comes into your pocket.
- The Accrued Income will be very complicated and hazy if the accrual accounting paints an untrue picture of that particular firm in case the business has seasonal or cyclical earnings.
- If the accrual accounting is misused, the accrual accounting can create chances for executives and the management of the particular firm to report sales and revenue to gain advantages from the incentives and commission.
Conclusion.
Accrued income is essential for any Individual’s overall financial year, company, or financial balance sheet. So it is imperative to understand Accrued Income when it comes to the hard-earned money of your own business.
This article will help you with your long-term business and retail investment in the areas such as real estate, mutual funds, and other critical areas of investment you are looking for.
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