The work was done in last month but the bill came this month — how do I get the cost into the right period?

What decides which period a cost belongs to?

On the accrual basis, a cost belongs to the period in which the goods were received or the work was done. Goods you hold as stock are the exception: AccountingTools' definition of accrued expenses lists goods among accrued expenses when received and consumed or sold, and the example in AccountingTools' accrued-costs article accrues goods that arrive without a bill to inventory, not expense. AccountingTools' definition of the accrual basis says an accrual-basis business records an expense as incurred, while a cash-basis business waits until it pays the supplier. Neither the invoice date nor the payment date decides the period. AccountingTools' article on the cutoff date says expenses such as utility bills or supplier invoices that arrive after the period end but relate to that period must be accrued.

Recording the cost on the invoice date, as your books do now, leaves the month that received the work carrying none of its cost and loads it onto the next month. AccountingTools' article on accrued costs says that when accrued costs are not recorded, the period's expenses are understated and its net income overstated. The mismatch recurs until the date of the work, not the date on the document, is your rule.

Do your books need an accrual at all?

The basis your books are kept on and the size of the item decide it:

AccountingTools' article on accrued costs says accrued costs are not used under the cash basis, where costs are recorded when they are paid. An accrual posted into cash-basis books would count the cost a second time when the payment is recorded, so a bill unpaid at the period end stays out of expenses until you pay it. Every entry below is for accrual-basis books. Whether to keep your books on the cash or the accrual basis is a separate question.

The same accrued-costs article says most organizations accrue only amounts above a materiality threshold, because below it recording them is not cost-effective. Set your threshold in writing, at the size below which the work of researching, recording and tracking an accrual is not worth the accuracy it adds to the period's result, and apply it the same way to every item in every period.

Where do unbilled costs come from, and how do you find them?

Unbilled costs have no document in your system to prompt you, so you must look for them. AccountingTools' definition of accrued expenses lists, among its examples, goods received and consumed or sold, and services received, for which no supplier invoice has yet been received. In a small business they include work finished but not yet billed, deliveries that came with a packing slip and no bill, usage-billed services such as utilities, phone and cloud services, professional fees from lawyers, accountants or consultants, and subcontracted work.

Search the same places at every period end:

• Match what was delivered in the period, from packing slips or receiving records, against the bills entered.
• Go through open purchase orders, signed quotes and contracts for goods delivered or work finished by the period end.
• Check that each usage-billed or recurring supplier has a bill covering the period.
• Ask whoever commissions outside work which contractors, advisers or subcontractors worked for the business in the period.
• Before closing, read the bills that arrive in the first days of the next period for service dates inside the period you are closing. A bill found this way gives you the amount: accrue what it bills for those dates, file the bill as its support, and clear it by your route when you enter it.
• Compare each expense line with the same line in earlier periods, and treat a recurring cost missing this period as a lead.

Wages for a pay period that straddles the period end are a separate question.

How do you estimate a cost that has no bill?

AccountingTools' article on accrued costs says the accrual carries your best estimate of the cost of the goods or services received, that the figure may come from the purchase order that authorized the purchase, and that estimates are built from historical expense patterns, contractual terms, usage data or management assumptions about services received before the period end. In practice, use the first basis that fits:

• An agreed price. Take the purchase order, quote or contract price for what was delivered or finished.
• Time or usage. Multiply the hours or units consumed in the period by the contracted rate.
• A recurring charge. Use recent bills for the same service, adjusted for anything you know has changed.

Keep with each estimate the document it rests on, the calculation, the date, who prepared it and who reviewed and approved it. AccountingTools' definition of accrued expenses payable says estimates should rest on the best available evidence, such as contracts, purchase orders, receiving records, time reports, usage data, prior invoices, supplier statements or subsequent invoices, and should be documented, reviewed, approved and adjusted when the actual invoices arrive. An accrual with nothing behind it can be neither defended at review nor rebuilt by you when the bill disagrees with it.

What entry do you make, and how do you keep it out of accounts payable?

AccountingTools' definition of accrued expenses gives the entry: debit the expense, and credit the accrued expenses liability account. For goods held as inventory, the example in AccountingTools' accrued-costs article debits the inventory account instead.

Use a liability account of its own, such as Accrued liabilities, and post the accrual as a journal entry with no supplier attached. AccountingTools' definition of accrued expenses payable draws the line: accounts payable generally represents supplier invoices already received and entered, while accrued expenses payable are obligations incurred before any invoice, usually recorded through adjusting entries. Accruing into accounts payable against a supplier would make your payables ledger show a bill the supplier never issued, distort that supplier's balance and the aging, and leave a figure that could be paid as if it were an invoice. After posting, check that the accrual appears in neither your payables aging nor any supplier's balance. Nothing is ever paid from the accrual; only the supplier's own bill is paid, through your payables routine.

If you enter every bill into payables, retire the accrual no later than the moment the real bill is entered, by the route you choose below. Designing the payables workflow itself is a separate question.

How do you clear the accrual so the cost counts once?

Choose one of three routes, write it into your close procedure and use it for every accrual in every period:

AccountingTools' definition of accrued expenses says accounting software can create the offsetting entry automatically as of the beginning of the following month. AccountingTools' article on reversing entries says it is extremely easy to forget a manual reversal and that a forgotten reversal shows the expense in both months. The relief route follows from double entry: charging the bill to Accrued liabilities removes the accrual as the bill is entered, so the cost is not charged to expense a second time. AccountingTools' accrued-costs article sets the accrual up as a reversing entry instead.

Never use two routes on one accrual. An automatic reversal followed by a bill coded to Accrued liabilities clears the accrual twice: the account turns negative and the period's expense is understated by the accrued amount.

Matching the bill to the accrual confirms the amount and the period only. It does not confirm where the money goes, and a bill or message that changes a supplier's payment details needs verifying before anything is paid, which is a separate question for your payables routine.

How does one cost move through two months?

A business closes monthly. An IT contractor works on a project through March at a contracted rate of 150.00 an hour. At the March close neither a bill nor a timesheet has come, so the business estimates 30 hours from the project plan and the contractor's progress notes, accrues 30 × 150.00 = 4,500.00, and files the plan, the notes and the contract with the entry. The bill, dated and received April 9, comes with a timesheet showing 31 hours worked in March, which the business confirms with the person who managed the work: 4,650.00. The contractor did no other work in April.

Using automatic reversal:

With a manual reversal, the April 1 lines are dated April 9 instead, with the same result.

Using relief against the bill:

Under every route the two accounts end up the same:

The expense lands once, at the 4,650.00 billed, and Accrued liabilities is back to zero once the bill is in.

What does the accrual change in each month's result?

Suppose the business has 20,000.00 of revenue and 12,000.00 of other expenses in each month:

Both ways the two months earn 11,350.00; the accrual moves 4,500.00 of cost back into March, where the work was done. On cash-basis books the 4,650.00 lands in whichever month the bill is paid.

What if the bill differs from the estimate?

The difference belongs to the period the bill arrives in. AccountingTools' definition of accrued expenses says that because an accrual is only an estimate, there is usually a small additional expense or negative expense in the following month once the reversal and the supplier invoice are netted. AccountingTools' article on changes in accounting estimate says a change in estimate arises from new information, is accounted for in the period of change, and does not require restating earlier financial statements. So March is not reopened to swap 4,500.00 for 4,650.00: the 150.00 is April's. Under either reversal route it falls out on its own; under relief it is the excess you code to expense, or the remainder you reverse.

The same article says there can be no change in estimate without new information. A difference that comes from your own slip, such as a wrong rate or a line missed from the purchase order, is therefore not a change in estimate, and how to correct a large one is a question for whoever prepares your annual accounts. Either way, note the reason beside the estimate and use it when you make the next one. A bill for something you did not receive is a dispute for your payables routine, not an accrual difference. So is a bill that charges for more than your own records show you received: settle it with the supplier before the bill is approved.

How do you check next period that nothing is stranded or doubled?

At the next period end, before making new accruals, reconcile the Accrued liabilities account to your list of open accruals. AccountingTools' article on reversing entries recommends reconciling all balance sheet accounts at regular intervals to detect unreversed entries, and reviewing any accrual kept open at every month-end close until it is reversed. AccountingTools' article on reconciling an account says to review each transaction in the account, adjust the balance to match the supporting detail, and keep the reconciliation detail. Then act on what you find:

Where does the accrual sit in the close, and what record does it leave?

Make the accruals after the period's bills and bank activity are entered and before the period's reports are produced. Keep one running accrual list recording, for each item, the supplier, what was received and when, the amount and how it was estimated, where the support is filed, the clearing route and the bill that cleared it. AccountingTools' article on reversing entries recommends a standard checklist of the reversing entries to be made each period. Put the list line's reference in each journal entry's memo so a reviewer can go from the entry to its support and back. The rest of the close, with its checklists and templates, is a separate question.

What changes at the fiscal year end?

Using a December 31 year end as its example, AccountingTools' article on the cutoff date says a company must make sure all revenue and expenses incurred up to that date are recorded in the correct period. The year-end result is the one an owner, lender or preparer relies on, so search wider: allow more days for late bills before closing, go back over the year's contracts, orders and recurring suppliers, and confirm that every accrual has its support filed. AccountingTools' accrued-costs article recommends an annual review of the accrual entries a business makes, to see whether they are sufficient, and year end is the natural point for it. This changes your books. When an accrued cost counts for tax depends on your tax accounting method, which is a separate question for whoever prepares your return.

What if the cost belongs to a job you bill a customer for?

Accrue the cost as above, but the job's result also depends on its billing. AccountingTools' definition of the accrual basis ties it to the matching principle, under which revenues and all related expenses are recorded in the same reporting period. If March's work on a customer job is accrued in March but the related billing lands in April, March shows the cost without the revenue and the job looks worse than it is. Handling the billing side of a job across a period end is a separate treatment, and accruing the cost does not deal with it.