To do accruals, you record revenue in the period it was earned and expenses in the period they were incurred, regardless of when cash moves. Each entry is a two-sided journal posting: for an expense, debit the expense account and credit an accrued liability; for revenue, debit an unbilled receivable and credit the revenue account. Most accruals are then reversed on the first day of the next period so the actual invoice or payment doesn’t get counted twice.
The rest comes down to knowing which items are worth accruing, calculating the amount that belongs in the current period, and keeping documentation that will hold up if an auditor or the IRS looks at it.
Gather the Documentation First
Before posting anything, pull the evidence that a revenue was earned or an expense was incurred inside the period. On the expense side, that means unpaid vendor invoices, payroll records for hours worked but not yet paid, loan statements showing interest accrued, and utility bills that straddle the cutoff date. On the revenue side, look at service contracts, delivery confirmations, and project milestone reports showing work completed.
Most of this material already lives in the accounts payable and accounts receivable modules of your accounting system. Pulling it together first matters because GAAP requires financial statements to capture all liabilities and receivables for the period, and a missed obligation can create a material misstatement.1Internal Revenue Service. Publication 538 – Accounting Periods and Methods
Decide What’s Big Enough to Accrue
You don’t need to accrue every small charge. Most companies set a materiality threshold and expense anything below it when paid. The SEC has said that while a 5% rule of thumb is common as a starting point (a misstatement below 5% of a benchmark like net income is preliminarily assumed immaterial), exclusive reliance on any single percentage has no basis in accounting literature or law.2U.S. Securities & Exchange Commission. Staff Accounting Bulletin No. 99 – Materiality Context matters: would the misstatement change an investor’s decision, mask a trend, or affect debt covenant compliance?
In practice, many private companies pick a flat dollar threshold like $500 or $1,000 and skip accruals below it. Public companies more often calculate materiality as a percentage of pre-tax income, revenue, or total assets. Whichever approach you use, write the policy down and apply it consistently. Auditors will test both whether the threshold is reasonable and whether you actually followed it.
Calculate the Amount That Belongs in the Period
The core technique is proration. Split a cost based on the days that fall inside your reporting window. If a $1,200 utility bill covers 30 days and 10 of them fall in the current month, accrue $400 (10/30 × $1,200).
Interest on loans works the same way. Take the daily rate and multiply by the number of days since the last payment that fall inside your period. On a $500,000 loan at 6% annual interest, the daily rate is roughly $82.19, so 15 days of accrued interest is about $1,233.
Revenue accruals often use a different method. Under the FASB’s ASC 606 standard, revenue is recognized by identifying the performance obligations in a contract, setting the transaction price, and then recognizing revenue as each obligation is satisfied.3Financial Accounting Standards Board. Revenue from Contracts with Customers (Topic 606) For a long-term service contract, that usually means percentage-of-completion or milestone-based recognition, not booking the entire contract value up front.
Post the Accrued Expense
Every accrued expense entry has two sides:
- Debit the specific expense account (wages expense, utilities expense, interest expense) to increase the expense on the income statement.
- Credit an accrued liability account to record the amount owed on the balance sheet.
Example: you owe employees $8,500 in wages earned during the last week of March, but payday is April 3. The March 31 entry debits Wages Expense for $8,500 and credits Accrued Wages Payable for $8,500. March’s income statement now shows the full labor cost, and the balance sheet reflects the obligation.
Check the entry date before you save. Cutoff errors happen right here. Most accounting software lets you lock prior periods once they’re closed, which prevents backdating but also means the entry has to be posted before the lock.
Post the Accrued Revenue
Revenue accruals are the mirror image:
- Debit an accrued revenue or unbilled receivables account to create a current asset representing the right to be paid.
- Credit the revenue account to increase earnings for the period.
Example: your firm completed $15,000 of consulting work in June under a contract that bills quarterly. On June 30, debit Accrued Revenue for $15,000 and credit Consulting Revenue for $15,000. When the quarterly invoice goes out, reverse the accrual and record the receivable through normal billing.
This is where errors carry the most weight. Booking revenue before you’ve satisfied the performance obligation under ASC 606 is the kind of aggressive accounting that draws auditor scrutiny and, for public companies, SEC enforcement attention.3Financial Accounting Standards Board. Revenue from Contracts with Customers (Topic 606)
Don’t Forget Vacation and Sick Time
One accrual that catches businesses off guard is compensated absences. Under FASB ASC 710-10-25-1, a liability must be recorded when four conditions are all met: the obligation stems from work employees have already performed, the time off vests or accumulates, payment is probable, and the amount can be reasonably estimated.
If employees earn 10 vacation days a year and can carry unused days forward, accrue the dollar value of those banked days as a liability. Multiply hours accrued by each employee’s pay rate. A strict “use it or lose it” policy generally doesn’t require accrual because the days neither vest nor accumulate. As headcount grows, this liability can become material fast.
Reverse the Entry Next Period
On the first day of the new period, reverse the accrual. This prevents double-counting once the actual invoice arrives or the payment goes through. The mechanics are simple: flip the original entry. If March’s entry debited Wages Expense and credited Accrued Wages, then April 1 debits Accrued Wages and credits Wages Expense for the same amount. When payroll actually runs on April 3, the expense is captured cleanly in the new period.
A few points to watch. Not every accrual reverses. Ongoing liabilities like compensated absences stay on the books and get adjusted periodically rather than reversed monthly. Reversals are for temporary accruals where the real transaction will hit the books through normal channels next period. Most accounting software can flag accrual entries for automatic reversal on the first day of the next month; using that feature keeps reversals from being forgotten during a busy close.
Year-End Cutoff and What Auditors Check
Month-end accruals matter, but year-end is where the pressure hits. Auditors run what’s called a search for unrecorded liabilities, testing whether you captured everything that should have been on the books at year-end. The standard technique is sampling cash disbursements from the weeks after year-end: if a check went out on January 15 for services performed in December, that expense belongs on December’s books. Auditors also review unentered invoice files and reconcile recorded payables against vendor statements.4Public Company Accounting Oversight Board. AS 2801 – Subsequent Events
Practically, the year-end close should include a deliberate review of any early-January payments that relate to prior-year obligations, plus conversations with department heads who may know about incurred costs that never made it to accounting. The most common year-end audit adjustment is an unrecorded liability that someone in operations knew about but never flagged.
Tax Rules That Change What You Can Accrue
For tax purposes, you can’t deduct an accrued expense until “economic performance” has occurred. This is the all-events test.5Office of the Law Revision Counsel. 26 USC 461 – General Rule for Taxable Year of Deduction If someone is providing services to you, economic performance happens as they perform the work. If you owe for property, it happens when you receive it.
There’s an exception for recurring items. If an expense meets the all-events test during the year, economic performance occurs within 8½ months after year-end, and the item recurs regularly, you can deduct it in the current year even though performance isn’t yet complete.5Office of the Law Revision Counsel. 26 USC 461 – General Rule for Taxable Year of Deduction December’s electricity bill paid in January is the classic example.
Once you’ve established an accounting method and filed a return using it, switching generally requires IRS approval via Form 3115.1Internal Revenue Service. Publication 538 – Accounting Periods and Methods If the IRS forces the change rather than you initiating it, the adjustment tends to be less favorable.
One boundary worth noting: not every business is required to use accrual accounting. Sole proprietors, S corporations, and most partnerships that stay under the annual gross receipts threshold (currently $32 million for tax years beginning in 2026) can still use the cash method.6Office of the Law Revision Counsel. 26 U.S. Code 448 – Limitation on Use of Cash Method of Accounting7Internal Revenue Service. Revenue Procedure 2025-32 C corporations, partnerships with a C corporation partner, and tax shelters generally cannot.
Penalties for Getting Accruals Wrong
If incorrect accruals cause you to understate tax liability through negligence or a substantial understatement of income, the IRS imposes a 20% accuracy-related penalty on the underpaid amount.8Office of the Law Revision Counsel. 26 U.S. Code 6662 – Imposition of Accuracy-Related Penalty on Underpayments “Substantial” means the understatement exceeds the greater of 10% of the correct tax or $5,000 for individuals.
In cases involving fraud, meaning deliberate manipulation of accruals to understate income, the penalty jumps to 75% of the portion of the underpayment attributable to fraud.9Office of the Law Revision Counsel. 26 U.S. Code 6663 – Imposition of Fraud Penalty That comes on top of the tax owed plus interest. Consistent, well-documented accrual practices are the best defense against both penalties and involuntary method changes.