One of the most important rules in accrual-basis accounting is the matching principle, which requires revenues and expenses to be recorded together in the same time periods based on their causal relationship. Since wages are paid out to employees who worked to produce revenues for the business, those wages need to be recorded as expenses for the time period in which they were earned by the employees -- thus leading to accrued wage expense.
Most accounting is done on either a cash or an accrual basis. Cash-basis accounting records transactions when cash and cash equivalents are either received or paid out, whereas accrual-basis accounting records almost all transactions at the times of their occurrence. Accrual-basis accounting is much more popular than cash basis because it produces more accurate and thus more useful financial information. Accrued wage expenses, as with other accrued revenues and expenses, only exist under accrual-basis accounting.
Accrued expenses are expenses that have occurred but have yet to be recorded, meaning that adjusting entries at the end of the time period are needed to bring the financial records in line with the actual financial circumstances. For some accrued expenses, this can be difficult because they have yet to be invoiced and estimates are hard to produce. For other accrued expenses, their values are either calculable by the business using its own data, such as accrued wage expense, or estimable based on previous experience, such as rent and utilities.
Accrued Wage Expense
Accrued wage expense is accounted for in the same manner as any other accrued expense. It is recorded as an expense and a corresponding liability to pay that expense at the end of the time period in question as an adjusting entry. Then, once its value is paid off, that liability is eliminated and the business's cash reserve deducted for the same value. Accrued wage expense only exists under accrual-basis accounting; under cash basis, wages to be paid to employees are not recognized as expenses until cash is actually paid out.
Entries for Accrued Wage Expense
The first entry is the adjusting entry needed to bring the records in line with actual circumstances. For example, if the business needs to pay $40,000 to its employees at the end of the month, it records that as $40,000 in wage expense and records a corresponding liability called wages payable. The second entry needed is the one recording the actual payment. In this example, once the business pays the $40,000 to its employees, it records that as the elimination of the liability of wages payable and deducts the corresponding amount from whatever asset was used to pay for it. In most cases, that asset is the business's cash reserve.
- Photo Credit Jupiterimages/BananaStock/Getty Images