Question

. Apply revenue and expense recognition principles to answer each of the following questions.

• The current year has been a poor one, so the business is planning to delay the recording of some expenses until they are paid early the following year. Is this acceptable?

• A dentist performs a surgical operation and bills the patient’s insurance company. It may take three months to collect from the insurance company. Should the dentist record revenue now or wait until cash is collected?

• A construction company is building a highway system, and construction will take three years. How do you think it should record the revenue it earns—over the year or over three years?

• A utility bill is received on December 30 and will be paid next year. When should the company record utility expense?

• Employees earned wages of $20,000 during the current month but were not paid until the following month. Should the employer record any expenses at the end of the current month?

Answer 1

1. As per accrual concept, expenses have to be recognized in the accounting period that they are incurred. Hence, the company cannot postpone recognition the expenses because the business has been poor. The expenses have to be matched with the revenues of the current year itself.

2. Revenue must be recorded in the year of providing the service. In this case although the dentist anticipates the collection of insurance next year, the revenue must be recorded and an insurance receivable has to be created.

3. As per the principle, where revenue is expected to be receive over a period of time , the revenue has to be recognized in a phased manner. The revenue either can be recorded as per the percentage of completion of the contract or if the revenue is received equally over the three years then as per the stream of inflows.

4. The bill is received before the end of the financial year and hence is a part of the current period expenses. The company should account for the utility expense in the current financial year and record it as payable.

5. Expenses although not paid must be recorded for the period that they belong as per accrual accounting. The outflow of cash is not a predeterminant to recognition of expenses.