Question

Class, what are the revenue and expense recognition principles. Explain them and why they are important.

Answer 1

In accrual basis of accounting, expenses and revenue are recorded in the books of accounts on the basis of the period for which those expenses and revenue belong irrespective of cash paid for expenses or cash received form revenues.

For example, rent expenses for three months is paid in advance at the end of January. Such advance payment should not be treated as expense in January. The advance rent paid should be recorded as expense only in that month for which such expenditure belongs. ie rent expense should be recorded in February, March and April. Rent expense should not be recorded in January.

Expense and revenue recognition on accrual basis is a very important concept because the expenses, revenues, account balances, profits etc.. are effected by the accounting treatment. When compared with cash basis of accounting, accrual basis of accounting gives a better picture of the financial position of a company.