Accruals vs. Deferrals: What's the Difference?
A clear, example-driven guide to timing revenue and expenses correctly under accrual accounting.
This post continues the accounting-cycle cluster alongside Adjusting Journal Entries, Closing Entries, and Reversing Journal Entries. See the full Accounting Basics Hub for the complete picture.
One of the most confusing concepts for new bookkeepers and business owners is the difference between accruals and deferrals.
Both are accounting adjustments used under the accrual basis of accounting, but they apply to different situations.
Understanding these concepts helps ensure revenues and expenses are recognized in the correct accounting period, leading to more accurate financial statements and better business decisions.
This guide explains accruals and deferrals in simple terms, with practical examples and a comparison table to help you remember the differences.
What Are Accruals?
Accruals are revenues or expenses that have been earned or incurred before cash changes hands.
In other words, the business has already completed the economic activity, but payment has not yet been received or made.
Accrual accounting records these transactions when they occur rather than when cash is exchanged — the same logic that drives every adjusting journal entry at period end.
Common Examples of Accruals
- Revenue earned but not yet invoiced
- Employee salaries earned but not yet paid
- Interest expense accumulated but unpaid
- Utilities used before receiving the bill
- Professional services completed before invoicing
These items require adjusting journal entries at the end of the accounting period.
What Are Deferrals?
Deferrals occur when cash changes hands before revenue is earned or an expense is incurred.
The payment happens first, but recognition in the financial statements happens over time.
Initially, the payment is recorded as an asset or liability rather than as revenue or expense.
Common Examples of Deferrals
- Prepaid insurance
- Prepaid rent
- Annual software subscriptions
- Customer deposits
- Maintenance contracts paid in advance
- Magazine subscriptions
These transactions are gradually recognized over future accounting periods.
Why Are Accruals and Deferrals Important?
Without them:
- Revenue may be recorded too early or too late.
- Expenses may appear in the wrong period.
- Financial statements become misleading.
- Profit may be overstated or understated.
- Business decisions may be based on inaccurate information.
Both concepts support the matching principle, which requires expenses to be recognized in the same period as the revenue they help generate.
Accrued Revenue Example
Suppose a consultant completes a project worth $3,000 on December 30 but sends the invoice on January 5.
Even though cash has not yet been received, the revenue belongs in December.
Debit Accounts Receivable — $3,000
Credit Consulting Revenue — $3,000
The income is recognized when it is earned.
Accrued Expense Example
Employees earn $6,000 in wages by the end of the month, but payroll is processed three days later.
Debit Salaries Expense — $6,000
Credit Salaries Payable — $6,000
The expense is recognized in the correct accounting period.
Deferred Revenue Example
A customer prepays $12,000 for a one-year service contract.
Debit Cash — $12,000
Credit Unearned Revenue — $12,000
Debit Unearned Revenue — $1,000
Credit Service Revenue — $1,000
Revenue is recognized gradually as the service is delivered.
Deferred Expense Example
A business pays $24,000 for a two-year office lease.
Debit Prepaid Rent — $24,000
Credit Cash — $24,000
Debit Rent Expense — $1,000
Credit Prepaid Rent — $1,000
Only the portion relating to the current month is recognized as an expense.
Accruals vs. Deferrals Comparison
| Feature | Accruals | Deferrals |
|---|---|---|
| Cash received or paid | After recognition | Before recognition |
| Revenue | Earned before payment | Payment received before earning |
| Expense | Incurred before payment | Paid before being incurred |
| Initial Balance Sheet Account | Receivable or Payable | Prepaid Asset or Unearned Revenue |
| Requires Adjusting Entries | Yes | Yes |
| Follows Matching Principle | Yes | Yes |
This comparison helps highlight the key distinction: the timing of cash flow relative to recognition.
How They Affect Financial Statements
Income Statement
Accruals and deferrals ensure revenues and expenses are reported in the correct accounting period, the same period that gets locked in through closing entries.
Balance Sheet
They create or adjust assets and liabilities, such as:
- Accounts Receivable
- Accounts Payable
- Prepaid Expenses
- Unearned Revenue
Cash Flow Statement
Cash movements appear when money is received or paid, regardless of when revenue or expense is recognized.
Ask yourself: has cash already moved, or hasn't it yet? If cash hasn't moved but the work is done — that's an accrual. If cash has already moved but the work isn't done — that's a deferral.
Common Accounts Involved
Accrual Accounts
- Accounts Receivable
- Accounts Payable
- Salaries Payable
- Interest Payable
- Interest Receivable
Deferral Accounts
- Prepaid Insurance
- Prepaid Rent
- Prepaid Software
- Unearned Revenue
- Deferred Revenue
If any of these balances look unfamiliar, it's worth reviewing how they flow through the general ledger before your next close.
- Confusing prepaid expenses with accrued expenses
- Recording revenue when cash is received instead of when earned
- Forgetting month-end adjustments
- Ignoring deferred revenue balances
- Recording expenses in the wrong accounting period
- Omitting supporting documentation
Regular month-end reviews help prevent these mistakes. If your adjustments turn out wrong, a reversing journal entry can undo them cleanly at the start of the next period.
Tips for Small Businesses
- Close your books monthly.
- Maintain a schedule of prepaid expenses.
- Review unpaid invoices regularly.
- Monitor customer deposits.
- Reconcile bank accounts every month.
- Use accounting software reminders for recurring adjustments.
- Review adjusting journal entries before preparing financial statements.
These habits improve financial reporting accuracy, and pair well with keeping a balance sheet and income statement you review monthly, not just at year-end.
Frequently Asked Questions
Are accruals required under accrual accounting?
Yes. Businesses using the accrual basis of accounting recognize revenues and expenses when they are earned or incurred, making accruals an essential part of financial reporting.
Are deferrals the same as prepaid expenses?
Not always. Prepaid expenses are one type of deferral. Deferred revenue is another common type, where payment is received before goods or services are delivered.
Do cash-basis businesses use accruals and deferrals?
Generally, no. Cash-basis accounting recognizes transactions when cash is received or paid, rather than when revenues are earned or expenses are incurred.
Can accounting software manage accruals and deferrals?
Yes. Most cloud accounting systems allow recurring journal entries, prepaid expense schedules, and deferred revenue tracking.
Why are accruals and deferrals important?
They improve the accuracy of financial statements by matching revenues and expenses to the correct accounting period.
Final Thoughts
Accruals and deferrals are fundamental concepts in accrual accounting. While accruals recognize revenues and expenses before cash changes hands, deferrals recognize them after cash has already been received or paid. Understanding the difference helps businesses prepare more accurate financial statements, comply with accounting principles, and make better financial decisions. Mastering these concepts is an important step toward understanding the full accounting cycle, from the first journal entry to the final suspense account clean-up.
Key Takeaways
- Accruals record revenue/expense before cash moves; deferrals record it after cash moves.
- Both require adjusting entries and follow the matching principle.
- Deferrals start as an asset (prepaid) or liability (unearned revenue) and are recognized gradually.
- Accruals start as a receivable or payable and are recognized immediately.
- Monthly closes and reconciliations are the best defense against timing errors.
About the Author
Ishara Vithana is a senior finance professional with over two decades of experience in accounting, bookkeeping, and small business finance. He is a Xero Certified Advisor and Partner, Dext Certified Expert, Fathom Advisor, and Tally Prime expert. Through Finance Made Simple, he helps small business owners and DIY bookkeepers understand accounting, bookkeeping, and business finance with practical, easy-to-follow guides. Connect with Ishara →
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