Expense Recognition Principle: Expenses should be recognized in the period when the related benefits are consumed or incurred.
Salary Expense Recognition
January: Salespersons earned $4,200 in commissions for January sales.
Recognition: Yes, recognized as salary expense in January since the benefits are consumed in that month.
City of Omaha and Waste Management
Contract for trash collection service costing $12,000 for the year.
Should City Recognize Expense in January?: Yes, the service is used starting January 1.
Amount: $1,000 for January (1/12th of the annual contract). The remaining $11,000 becomes a prepaid expense.
University of Florida and Airline Tickets
Paid $10,000 in advance for tickets to a March tournament.
Recognition in January?: No, no expense incurred in January as the game is not yet played.
Houston Community College Employee
Employee worked 8 hours on January 31 at $15/hour.
Recognition: Yes, recognized salary expense for the hours worked, totaling $120 ($15 x 8 hours).
Insurance Policy Payment
Bond Company paid $3,600 for a 12-month fire insurance policy starting January 1.
January Expense Recognition?: Yes, recognize $300 in January (1/12th of the policy).
Phone Service Bill from January
Ziggler Company received a bill for $230 for January phone service.
Expense Recognition: Yes, recognize full expense of $230 in January even though payment occurs later.
Recognize expenses in the period benefits are utilized.
Deferrals: Payments made in advance for future benefits (e.g., prepaid expenses for insurance or rent).
Accruals: Recognizing expenses before cash payments (e.g., salary expenses, utilities).
For Recognized Expenses: Debit Expense Account, Credit Cash or Accounts Payable (depending on cash payment timing).
For Deferrals: Debit Prepaid Expense, Credit Cash upon payment; later, Debit Expense, Credit Prepaid Expense.
For Accruals: Debit Expense, Credit Accounts Payable when recognizing before payment.
Revenue Recognition: Revenue is recognized when it is earned, regardless of when cash is received.
Timing Scenarios:
Cash Collected at Sale: Debit Cash, Credit Revenue.
Cash Collected Before Earned: Record as Unearned Revenue (liability); Debit Cash, Credit Unearned Revenue.
Cash Collected After Earned: Record as Accounts Receivable; Debit Accounts Receivable, Credit Revenue.
Deferral: Cash received before service/product delivery, creates a liability (Unearned Revenue).
Accrual: Revenue recognized before cash is received; creates an asset (Accounts Receivable).
Review of journal entry applications is essential for understanding expense and revenue recognition.