Expense Accounting

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Blog Author :

WallStreetMojo Team

Edited by :

Ashish Kumar Srivastav

Reviewed by :

Dheeraj Vaidya, CFA, FRM

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Expense Accounting Definition

Expense accounting refers to identifying expenses in the current accounting period, which involves a lot of judgment and accounting data analysis.  It includes booking invoices, creating new vendors in the system, VAT accounting, accruals, prepaid, vendor ledger analysis, timely payments, etc.

Table of contents

Recording Expenses in Accounting with Examples

#1 - Invoice booking

As soon as we receive the invoice from a Vendor, it is booked by the accounts payable associate. While booking the invoice, the associate must check the date of the invoice, the period it relates to, any change in payment instructions, VAT if any, and other details. Once the associate has booked the invoice it goes for further approval to the General Ledger team, checking if the account coding is correct.

After that, it goes to the department head for approval to check if the expense is valid and expected. Once it goes through the approval process, the invoice goes to the treasury for payment.

Accounting entry on Invoice Booking

Let’s say we receive an invoice for $1,000 for marketing expense –

Journal when the invoice is booked –

Expense Accounting Example 1
Expense Accounting Example 1-1

Journal when an invoice is Paid –

Expense Accounting Example 1-2

#2 - Accrual of Expenses

One of the most critical aspects of expense accounting is identifying and considering expenses in the current accounting period. In real-life situations, for various reasons, we often don’t receive invoices from Vendors on time or are stuck in transit.

In those cases, when we are sure we will receive the invoice, we post the accrual entries. Accrual is a process of recognizing the current period expenses even though we have not received the invoices from the Vendor.

Accounting Entry for Accruals

Let’s say that Vendor X had supplies Tea & Coffee for $4,000 in June 2019; however, the invoice is not yet received; in this case, the following entries will be posted –

Journal when accrual is booked –

Expense Accounting Example 2
Expense Accounting Example 2-1

Journal when an invoice is received –

Expense Accounting Example 2-2

Journal when an invoice is Paid –

Expense Accounting Example 2-3

#3 - Prepaids

Sometimes we get the annual or quarterly invoices from Vendors, which we have to pay in advance. We also must spread those expenses over the corresponding period while recognizing them in the books.

It shows the expense amount related to Prepaids in the balance sheet and releases the current period amount to the profit & loss account.

Accounting Entry for Prepaids

Let’s say that Vendor X bills a company quarterly in advance for office air conditioner maintenance. In July, a bill of $4,500 was received for the July-September 2019 period. While doing accounting in July, $1500 is released to Profit & Loss A/C, and $3,000 is shown as a prepaid asset on the balance sheet.

Subsequently, in August & September 2019, $1500 is released to the Profit & Loss account as monthly expenses. Here is the accounting entry –

In July -

Journal when prepaid is booked –

Expense Accounting Example 3
Expense Accounting Example 3-1

Journal when an invoice is paid –

Exp Acct Example 3-2

In August -

Journal when prepaid is released –

Exp Acct Example 3-3
Exp Acct Example 3-4

In the month of September -

Journal when prepaid is released –

Exp Acct Example 3-5
Exp Acct Example 3-6

#4 - Payments

It is a crucial step involving outgoing funds, which must not go to an incorrect account. The person setting up the payment must ensure that the account is set up correctly and verified twice.

Also, while making payments, the current setup is essential. If we pay EURO in place of USD, the bank will charge extra for currency conversion, and the Vendor will also receive additional payment.

Advantages

  • Financial statements represent an accurate and fair view of the financial status of an entity
  • Audit facilitation becomes easy as expenses are recognized in the period to which it relates
  • Tax filing, transfer pricing calculation, and other statutory compliance becomes easier
  • Improves public faith and investors trust which is good for business
  • Data is used for budgeting and various decision-making steps
  • Improved relationship with banks makes it easy for financing activities

Points to Note about Changes in Expense Accounting

In today’s globalization and increasing compliance requirements, the process keeps changing. With the introduction of IFRS globally, there are considerable changes in the expense accounting process, so the accountants have to ensure that implementation is smooth and the organization is IFRS ready.

Conclusion

Expense accounting is a vital part of the overall accounting process as the data is used for planning, budgeting, and decision-making. A good expense report mechanism goes a long way in the growth of any organization, so every organization must have a robust system and qualified personnel for expense reporting.