To accrue or not accrue if receive invoice for whole year in advance but only pay monthly? - The Book-keepers Forum (UK)

pericles95 · Newbie

To accrue or not accrue if receive invoice for whole year in advance but only pay monthly?

Shamus · Forum Moderator & Expert

I enter it as an accrual and set a monthly auto reversal over the period covered that way it looks after itself (I then adjust the actual day of the pauyment to the bank statement after the event).

Even though it doesn't look pretty its a reflection of the financial reality (similar to the business having a loan).

HTH,

Shaun.

RobH · Expert

Though Shaun is correct, I have to say for myself and other small businesses I approach it differently.The idea of the accruals concept is to match expenses (or income) to the period in which they relate, therefore if the rates are paid monthly then posting the rates at the time of payment will achieve this. Any material balances can be journalled at the year end. In a bigger organisation (with a larger rates liability) or a business that prepares monthly management accounts I would go with Shaun's method every time as monthly management accounts will need to show the liability.

emmiestar · Newbie

I do it differently. I post the invoice to the purchase ledger then journal the nominal account to prepayments. That way your purchase ledger shows your liability reducing each month, the prepayment account is then journaled back to the nominal ledger each month, reducing prepayments and increasing rates as each month goes by. At the end of the year your purchase ledger is clear, your prepayments are clear and your rates account shows the full amount. Theoretically you have a bill for the forthcoming year hence a prepay journal. I accrue for things like electric as we get a bill dated 1st of the month for the previous month.

RobH · Expert

Emmiestar I don't think this has been prepaid though?

emmiestar · Newbie

Our rates are paid monthly, I didn't think it mattered how it was actually paid, as that's cash. You've been invoiced for forthcoming periods, invoiced in advance so I have been taught that's s prepayment regardless of when the money is actually paid over. Have I been doing it wrong for 10 years??!!

emmiestar · Newbie

Also, Our rates may be paid monthly but only 10 payments are made. If you only had 10 payments and made a posting every payment, you would have 2 months with no rates so your P&L for those 2 months would have no rates accounted for. My rates are split into 12 and 12 equal postings are made each month along with 10 payments.
If you have 12 payments then accruals is a good way. But since we only have 10, I post as prepayments as we wouldnt have accurate costs each month.
Im a bit waffly, I apologise.

Shamus · Forum Moderator & Expert

I would say yes.

Think of accountants fee's which are the bog standard accrual thats always used as an example.

They are billed for fee's for the following year but you do not owe the accountant the money until they do the work.

Transpose that to Rates. You have received a bill for money that you will owe over the given period (some in this period, some in next)

If thats not included in the accounts as a creditor then any financial institution looking at loaning the business money will not have a full picture of the current debt.

The above said, whilst I can see your point such assumes that you do not owe money until the month that the rates cover. Its my view though that such treatment on anything other than a one month rolling tenancy agreement would be incorrect.

I can see no argument to suggest that this would be a prepayment.

kind regards,

Shaun.

Shamus · Forum Moderator & Expert

The above answered your first message, for the second one that really shows the point that the rates should be a single accrual matched to ten actual payments.

I can see what your saying from a management rather than financial accounting perspective but is your method not compromising integrity of the regulatory controlled accounts for those only for internal use?

The above said, for something like rates with most businesses that should not have a material effect on the accounts so this is more a principle rather than practical chat that we are having.

kind regards,

Shaun.

p.s. Waffle is good

RobH · Expert

Hi Emmiestar, I see what you are saying and yes that would be right.
When the invoice comes in you debit rates and credit supplier
when a monthly payment is made, debit supplier and credit bank
on a monthly basis dr prepayment and credit rates
Thus recognising the 'unused' part of rates as an asset.

This all hinges on actually having the invoice in at the beginning as you said. This is why I just make the monthly posts!

bro0010 · Senior Member

emmiestar wrote:
Our rates are paid monthly, I didn't think it mattered how it was actually paid, as that's cash. You've been invoiced for forthcoming periods, invoiced in advance so I have been taught that's s prepayment regardless of when the money is actually paid over. Have I been doing it wrong for 10 years??!!

Hi Emmiestar,

No, you're doing it fine. Looking at Shaun's answer, I think he may have misunderstood what you were doing when he said you were doing it wrong. Am I wrong Shaun?

In Northern Ireland, the Land and Property Services agency looks after rates. They offer a 4% discount for lump sum payment up front. A significant number take this offer up. The rest pay the full amount by 10 monthly amounts with a two month "holiday".

Your process of logging the invoice on the Purchase Ledger when received (start of April in NI) and charging the rates account with the full year charge, fits with the processes adopted for all other supplier invoices. If the 4% settlement discount is taken, it is processed to the Purchase Ledger when the payment is made, otherwise the 10 payments over 10 months deal with the Purchase Ledger liability. Turning to the P&L side of things, you've correctly recognised the overcharge to P&L with your initial journal to Prepayments (maybe you'd think of it as Deferred Expenditure - keeping the charges out of the P&L until they "mature" with the provision, over time, of the services for which rates pay?). Releasing the Prepayment/Deferred Expenditure in 12 equal amounts is spot on for recording the impact on P&L.

A final observation is that rates refunds can be obtained on change of ownership of properties, which demonstrates the "asset" nature of any Prepayment/Deferred Expenditure carried on the balance sheet.

Warm regards,

-- Edited by bro0010 on Thursday 4th of September 2014 02:24:10 PM

Emmiestar · Veteran Member

Thanks Ian & Rob.
I was having a panic I had been wrong all these years!
Also, our rates invoices are dated March but are relating to April to March the following year.
So i just post the invoice dated 1st April then follow my prepay method.
I dont see the point in creating extra work by putting the invoice on dated march then accounting for it as next years expenses.
Ive never had a problem when audited.
One thing I have also lived by is KISS - Keep it simple stupid.
The more simple you can keep it the easier it is to follow.

Im a newbie to this site but have nearly 15 years experience and currently finishing AAT 4. So I will probably be asking lots of questions myself over the coming months if thats ok?

RobH · Expert

Welcome to the forum Emmiestar. I would date that April 1st too.
As many on here know I live by TOTA, 'there or thereabouts'!! Shaun and Bill will be getting migraines now!

Good luck with your AAT and I'm sure you will be answering more questions than you ask,
Rob

Shamus · Forum Moderator & Expert

bro0010 wrote:
No, you're doing it fine. Looking at Shaun's answer, I think he may have misunderstood what you were doing when he said you were doing it wrong. Am I wrong Shaun?

I'm always first to throw myself on my sword when I've made a mistake (I know, difficult to believe but ot does happen occassionally, lol) but I'm not seeing it here.

Lets take the scenario that you speak of where payment is made up front.

The payment utilising the reduced rate agreed up front indicates that you had commited to the rates for the whole period. There is no free period but rather the handy repayments are spread over ten months rather than twelve so the working would still be rates/12*number of months remaining is the prepayment at the period end.

Unless I'm not reading something correctly the scenario being spoken about in this thread is surely the polar opposit of that where the business knows that a debt has been incurred so the non payment of a business debt that the company knows it owes is an accrual.

That may be reduced by payment or refund or reduction of liability (i.e. by moving out of the premises) but whatever remains at the period end is still an accrual.

The basic difference may be in our understanding of business rates and I make no allowance here for there perhaps being some difference between England and Northern Ireland.

You owe the full bill which is collected in instalments. The instalments are just easy repayment terms at 0% interest, its not that you don't owe the money until the payment.

If you move out the bill is recalculated for the period of residency and any over payment returned.

The basis of the argument being put forwards by others would seem to be that you only owe the debt or have prepaid the debt for that particular month and the rest of the obligation is immaterial.

kind regards,

Shaun.

Shamus · Forum Moderator & Expert

RobH wrote:

As many on here know I live by TOTA, 'there or thereabouts'!! Shaun and Bill will be getting migraines now!

lol Rob, you know us too well.... Although, I did say above that the amounts are unlikely to be material so its a principles based debate.

I think that the TOTA philosophy may be rubbing off on me a little.

Right, where's the Paracetamol.

Peasie · Expert

RobH wrote:
As many on here know I live by TOTA, 'there or thereabouts'!!

Funny thing - I was just thinking about that during the VAT inspection on Monday when I almost blurted it out before realising the pennies were dropped off in Boxes 6 and 7 anyway and that was the cause of the discrepancy.

bro0010 · Senior Member

Shamus wrote:

Unless I'm not reading something correctly the scenario being spoken about in this thread is surely the polar opposit of that where the business knows that a debt has been incurred so the non payment of a business debt that the company knows it owes is an accrual.

Hi Shaun,

That's where we're reading Emmiestar's situation differently (I think confuse ). Emmiestar wasn't in agreement with the OP.

It's not about accruing because of non-payment. It's about, having hit the accounts with the full whack up-front because she has processed the invoice, how to allocate the debit side of the double entry between P&L and Balance Sheet as you pass through the ensuing months. Instead of accruing in lieu of payment, she's processing the full liability through the Purchase Ledger up front. Having done so, she is able to disassociate the timing of payments from the P&L charges, and spreads the P&L charges evenly over the full period of the rates assessment. The payments made, whenever they may be made, only affect the Purchase Ledger.

To put it at its crudest, assume rates assessments that run Apr-Mar and a company year end of Apr. Emmiestar will process an annual bill for £1,200 as follows (I'm interpreting her posts here. Please correct me if I'm wrong Emmiestar.) :

1 Apr: Dr Rates (P&L) £1,200 Cr Purchase Ledger Control £1,200

and

1 Apr: Dr Prepayments £1,200 Cr Rates (P&L) £1,200

28 Apr - First of 12 recurring journals to charge rates to P&L: Dr Rates (P&L) £100 Cr Prepayments £100

28 Apr - First of 10 Direct Debits taken from her bank: Dr Purchase Ledger Control £120 Cr Bank £120

The balances at 30 Apr will be:

Dr Rates (P&L) £100 (year 1)

Dr Prepayments £1,100

Cr Bank £120

Cr Purchase Ledger Control £1,080

By the end of January in year 2 it'll be:

Dr Retained Earnings £100 (P&L from year 1)

Dr Rates (P&L) £900 (year 2)

Dr Prepayment £200

Cr Bank £1200

Cr Purchase Ledger Control £NIL

By the end of March in year 2 it'll be:

Dr Retained Earnings £100 (P&L from year 1)

Dr Rates (P&L) £1,100 (year 2)

Dr Prepayment £NIL

Cr Bank £1200

Cr Purchase Ledger Control £NIL

Ignoring the discount aspect, if she paid in full up front, her balances at 30 Apr in year 1 would be:

Dr Rates (P&L) £100 (year 1)

Dr Prepayments £1,100

Cr Bank £1,200

Cr Purchase Ledger Control £NIL

The Jan and Mar month end positions in year 2 will be the same as previously stated.

Are you're taking issue with the principles behind these debits and credits?

Warm regards,

-- Edited by bro0010 on Thursday 4th of September 2014 06:54:49 PM

Emmiestar · Veteran Member

oh dear look what I have started....

I read the original question to be that -

Invoice is received and (for example) £12000 is due for the whole year and he wanted to know how to accrue for it.

Well I wouldnt accrue for something payable in advance.

I only accrue for when I dont have an invoice, ie you know your expecting one but it hasnt turned up in time to meet that months deadline.

Therefore I class the rates to be a prepayment.

My transactions are the same as what Ian has explained.

Using the accountants fees as an example, ours seem to go up every year, each month I accrue approximately £600 over a year i have £7200 that has been accounted for towards the accountants fees. I also know that although our year end is March, its often June or even as late as September before we receive the final bill from them.

Its all about spreading the cost evenly.

Other companies may not be that bothered and dont mind having the large amounts hit the P&L in one month.

Shamus · Forum Moderator & Expert

Hi Ian,

I see where we go our seperate ways in that I would not classify anything as having been prepaid unless the money had left the bank account where you utilise a Purchase Ledger control account to balance.

I can see what you are doing but its not the same approach that I take. Let me talk through the above but lets imagine that rates come in on the 1st and the company year end is the end of september (so a nice easy 50/50 split)

My entries would be :

1 Apr:
Dr Rates (P&L current year) £600
Dr Rates (P&L next year) £600
Cr Accruals £1,200

If its not the first year there would of course also be the previous years also being processed

28 Apr - First of 10 Direct Debits taken from her bank:

Dr Accruals £100
Dr Prepayments £20
Cr Bank £120

At the end of September when preparing the accounts there will be

Accruals £600
Prepayments £120

For months 11 & 12 where no bank payment is made

Cr Prepayments £100
Dr Accruals £100

As with yourself I would set up the automatic entries right at the start of each year when the rates come in.

I know that we may not agree on this but I am not seeing anything wrong with my approach which will not require the journaling of accruals and Prepayments in September but rather they just look after themselves.

kindest regards,

Shaun.

Shamus · Forum Moderator & Expert

Hi Emmiestar,

its no problem, we enjoy chatting these things through and I think that all of the usual suspects such as Rob, Ian, Bill, Kris, myself, etc. build in complexities even where there are non.

You are completely right in that if it all comes within the same year it doesn't matter whether you call it an acrual or a prepayment as the balance is settled by the reporting date.

The complexity that we've built into the scenario is the idea of throwing a period end in the middle and how the reporting should be built around that.

Your issue as I see it is trying to smooth the figures for the management accounts. My approach is to extract information to Excel for management accounts at attempting to get the accounts package to do both can be problematic.... Although, if you use Sage then Ian's company market specialist management reporting tools making the accounts package more flexible.

Anyway, many thanks for helping stir a debate as its always nice to think outside one's normal work practices.

talk in a bit,

Shaun.

matt123 · Senior Member

Edit : Stared at my post for 10 mins, decided it didn't quite look right, deleted it.

-- Edited by matt123 on Thursday 4th of September 2014 09:15:40 PM

bro0010 · Senior Member

Hi Shaun,

Firstly, I really appreciate the time you put into discussions like this. It wasn't that I disagreed with what you were saying at all (to be honest I didn't really understand it), it was just that I understood what Emmiestar was saying and couldn't see any particular problem with it. I had hoped to encourage her whilst hoping that you misunderstood her position rather than disagreed with it.

I never intended to imply that I saw anything wrong with your approach. I'm sorry if you thought I was. I was merely expressing a view that Emmiestar's approach seemed to me to be a valid enough way to skin that particular cat (no offence to any cat lovers out there!). Grovel over.

I've seen Emmiestar's approach many times over the years but have never come across your approach before. That doesn't make either right or wrong - just different. So far as I can see, the only difference between Emmistar and you at 30 Sept (using your example) is that Emmiestar would show a Purchase Ledger liability with respect to the rating body's invoice of £480 whereas you show an Accrual liability of £600 and a Prepayment of £120. I have to confess, I understand what the £480 represents more easily, but could live with yours without any difficulty.

Thanks for putting figures to your words - it has been enlightening (I saw the words previously, without being able to envisage the practical outworking). I'm still grappling with the entries and waiting for a eureka moment!

Kind regards,

Shamus · Forum Moderator & Expert

Hi Ian,

no problem at all and I only ever took it as a chat amongst professionals of alternate ways of getting to the same outcome.

If there's one thing that I've learned its that its always worth looking at how others approach a problem and trying to pick up best practices in a constant desire to improve one's own skillset.

Even if there is some professional disagreement its good as it makes those who read these threads think about what they are doing, what they are attempting to achieve and how they are achieving it as I've seen too many cases where people do things because they have always been done that way rather than understand why they are doing them that way.

I know what you means about including the figures. I used to have that difficulty with study texts. BPP always give a wordy explanation, Kaplan give a brief explanation and then steadily more complex examples. By the end of my studies I had dropped BPP all together as I want to see ideas in action, not simply learn dry theory.

Anyway, on a bit of a slow day today that was quite fun (sad what keeps me ammused isn't it, lol).

Bit of a baptism of fire for poor Emmiestar but hope that she enjoyed it as well.

Talk later Ian,

kindest regards,

Shaun.

bro0010 · Senior Member

Shamus wrote:
My entries would be :

1 Apr:
Dr Rates (P&L current year) £600
Dr Rates (P&L next year) £600
Cr Accruals £1,200

Hi Shaun,

Good morning!

I know, I'm flogging this one to death, but I'd like to understand fully.

I think I'm across everything except the practicalities of the initial entries above now. Can I be cheeky and ask you to pretend you're using Sage (shock horror) and are recording these entries. If it is processed with a date of 1 Apr, how does £600 end up in P&L next year? confuse

Regards,

matt123 · Senior Member

I have done a short example on excel of £600 remaining unpaid. All works fine BUT, to me, the prepayment should be the difference of the Purchase Ledger control account and the account I'm calling prepayments in the example no?

So £40 has been prepaid up until the end of April. By the end of the 10th month there will be £100 prepaid to journal to the remaining 2 months. Is it just a case of renaming the prepayments account something else?

-- Edited by matt123 on Friday 5th of September 2014 11:56:52 AM

-- Edited by matt123 on Friday 5th of September 2014 11:57:39 AM

RobH · Expert

Good work Matt...put this in to a TB and you recognise the prepayment asset at £400 (the unused rates) and the liability of £360 (trade creditor/purchase ledger), therefore a net asset of £40.

Rhianrach · Expert

You see I'm lucky as i just have to work out what portion is for the following year and let the accountant know on a little chart and let him sort it out :)