Accrued liabilities represent an entity’s obligations related to expenses that have been incurred but not yet paid. But why are these liabilities not recorded in accounts payable or payable to vendors?
Usually, the liabilities are recorded in accounts payable when the bills or invoices are received from vendors. However, there is some time lag between receipt of goods or services and receipt of vendor invoices. For instance, an entity consumes utilities such as electricity, gas, water etc. every month but the utility bills are received on the 15th day of the next month. If the entity is preparing its financial statements for the period ended 31 December, and if it waits for the bills to record the utility expenses, it will miss out on recording the utility expenses for the month of December. Therefore, accrued utility expense is recorded based on the estimated amount with a corresponding effect recorded as accrued liability.
Accrual basis of accounting requires the expenses to be recorded when incurred regardless of their payment status. Therefore, at the end of an accounting period, usually some accrued liabilities are recorded by the means of adjusting entries to comply with the accrual basis of accounting.
Following rule can be used to distinguish between the use of accounts payable account and accrued liabilities account.
- If the expense is incurred and the vendor invoices are received but not yet paid, the related liability is recorded in accounts payable.
- If the expense is incurred but the vendor invoices are NOT yet received and paid, the related liability is recorded in accrued liabilities account.
Following example will further clarify the use of accrued liabilities account.