What is Accrued Income?
Accrued income is income that a company will recognize and record in its journal entries when it has been earned – but before cash payment hast been received. There are times when a company will record a sales revenue even though they have not received cash from the customer for the service performed or goods sold.
An example is when customers purchase goods on account or pay for a service on account. The term “on account” means that customers make the purchase on credit. In such situations, companies recognize that they are selling goods or performing a service even when they haven’t received any cash. This deferred income is accrued revenue (income).
How to Record Accrued Income?
Similar to accrued expense, accrued income is recorded in the period during which it is recognized, even though cash has not been exchanged. We offer an example below to demonstrate this.
On March 31, 2017, Corporate Finance Institute provided $75,000 worth of online resources to Lasdo Company. However, they will not receive payment for the services until April 15. However, income must be recorded for the accounting period it’s earned in, regardless of whether payment is received. This is a fundamental principle of accrual accounting.
To handle this situation, CFI will record this “accrued income” as a credit to income. To balance the transaction, a debit in the same amount will be made to an “accounts receivable” account, which is a balance sheet account.
Accrued Interest Income
Another example of accrued income might arise from interest a company earns on an investment. For example, assume Company ABC makes an investment on March 1st. The investment pays interest in the amount of $1,000 every March 1st and September 1st. At the end of March, ABC has earned one month’s worth of interest on its investment – but it will not actually receive an interest payment until September 1st. The month’s worth of interest – approximately $166 – that ABC has earned but not received at the end of March is accrued interest income.
This will be recorded with a $166 credit to the “interest income” account and a corresponding $166 debit to the “interest receivables” account.
Importance of Deferred Income
Deferred income is very important in accrual accounting because sometimes companies receive advances for their goods or services. To prevent overstating certain accounts, companies need to differentiate between the revenue that they have earned versus revenue that they have not yet earned. Advanced receipt for goods and services to be provided must be recorde in a Deferred Income account, which is a liability account.
A perfect example of where things can go wrong is when companies do not differentiate between earned and unearned revenue and keep putting accrued revenue into the revenue account. When this lack of differentiating occurs, it leads to an overstatement of both revenue and net income. Thus, the financial statements are all affected.
Therefore, understanding the concept of accrued income and accrual basis accounting is key to avoiding errors in the financial statements.
When you think you have mastered accrued income, then be sure to check out these related CFI articles to get a better understanding of accrual basis accounting and other topics in accounting: