1. Accrued Expenses (Outstanding Expenses)

An accrued expense is an expense that has been incurred during the accounting period but has not yet been paid by the end of that period. The obligation to pay still exists, so the expense must be recorded.

Key principle: Debit the expense account, Credit the accrued expense (liability).

2. Prepaid Expenses (Prepayments)

A prepaid expense is a payment made in advance for goods or services that will be received in a future period. At the end of the accounting period, part of the prepayment has now been "used up" and must be charged as an expense.

Key principle: Debit the expense account, Credit the prepaid expense (asset).

3. Accrued Income (Income Receivable)

Accrued income is income that has been earned during the accounting period but has not yet been received by the end of that period.

Key principle: Debit the accrued income (asset), Credit the income account.

Scenario

A Tanzanian business, Mwanga General Traders, has the following transactions for the year ended 31 December 2023:

• Rent payable: Tsh 600,000 per year, paid quarterly (Tsh 150,000 each quarter)
• The rent for the quarter ending 31 December 2023 (Tsh 150,000) was not paid until 15 January 2024

Required

Show the adjusting entry for accrued rent and explain the impact on the financial statements.

Solution

Step 1: Identify the accrued amount

The rent for December quarter (Tsh 150,000) was incurred in 2023 but paid in 2024. This is an accrued expense of Tsh 150,000.

Step 2: Prepare the adjusting entry

Step 3: Explanation

• Rent Expense increases by Tsh 150,000 in the Profit and Loss account, reducing profit
• Accrued Rent (a current liability) of Tsh 150,000 appears in the balance sheet
• The financial statements now correctly reflect the rent incurred in 2023, even though paid in 2024

Prepaid Expenses Example

Jamila operates a small shop in Dar es Salaam. On 1 October 2023, she paid Tsh 360,000 for a one-year insurance policy covering her shop. The accounting year ends on 31 December 2023.

Required:

1. Calculate the prepaid insurance as at 31 December 2023
2. Prepare the adjusting entry

Solution

Step 1: Calculate the prepaid portion

• Total insurance paid: Tsh 360,000 for 12 months
• Period covered: 1 October 2023 to 30 September 2024
• Months used in 2023: October, November, December = 3 months
• Months prepaid (to be shown as asset): 12 - 3 = 9 months

Prepaid insurance = (Tsh 360,000 ÷ 12) × 9 = Tsh 270,000

Step 2: Adjusting entry

Or alternatively:

• Accrued expenses: Expense incurred but not yet paid → create a liability (accrued expense)
• Prepaid expenses: Payment made in advance → reduce the asset (prepaid expense) and record the portion used as expense
• Accrued income: Income earned but not yet received → create an asset (accrued income)

Always remember: The accrual basis records transactions when they occur, not when cash moves.

In Tanzania, small business owners and shop keepers in markets like Kariakoo or Mwanza apply these concepts when they sell goods on credit or receive goods on credit. For example, if a hardware shop in Arusha sells building materials worth Tsh 500,000 to a customer in December 2023 but receives payment in January 2024, the shop owner must record the Tsh 500,000 as accrued income in the 2023 financial statements to correctly calculate profit for that year. This ensures the business owner knows exactly how much money was actually earned, not just how much was received in cash.