Mei 20 2008
Why Accrual Accounting??
If you have ever studied accounting, you will tend to have heard about accrual. Yes, of course you will easily know what the word accrual is by searching the word in the dictionary and voila the definition is there to see. But do you know exactly what accrual (based) is?? Accrual is actually the opposite of the cash-based accounting and bookkeeping widely recognised by even laymen who have never studied accounting before. Cash-based accounting is based on the practice that income is posted or recorded when it is RECEIVED while expense is posted or recorded when it is PAID. This kind of practice is widely carried out by most of businesses especially the proprietorships including most small single professional offices like doctors, lawyers, etc. On the other hand, accrual-based accounting or bookkeeping is based on the practice that income is recorded when it is EARNED rather than when it is received while expense is recorded when it is INCURRED rather than when it is paid.
Now take a closer look at this following simple example:
Suppose you don’t have any cars nor (motor)bikes and your current monthly public transportation expense is Rp. 350,000.00. Now you decide to buy a motorbike in hope that you can press down the expense. You buy a motorbike which costs you 12 million rupiahs. But that’s not all, even with a motorbike you will have to spend more for gas or fuels, parking fees, etc, which totalled Rp. Rp. 250,000.00 per month. Now what is the total of the monthly transportation expense according to both cash-based and accrual-based calculation?
According to the cash-based calculation, your this month transportation expense will be:
- The purchase of the motorbike Rp. 12,000,000.00
- Gas or fuels, parking fees, etc. Rp. 250,000.00
TOTAL TRANSPORTATION EXPENSE Rp. 12,250,000.00
But in the next month your transportation will drop sharply to:
- Gas or fuels, parking fees, etc. Rp. 250,000.00
Yes! That’s it. Your next month transportation expense will drop to only Rp. 250.000,-
For several reasons which are beyond this text, this kind of sharp fluctuation is so much disliked by accountants. Shortly said, accountants don’t like to see a sharp fluctuation expense which is caused only by a single ’normal’ activity like that of buying a motorcycle. So accountants need to invent another way to express the total expense. From this point of view, the accrual-based bookkeeping is born.
In this motorcycle case, accountants tend to allocate the motorbike purchase into the approximate number of years served by that motorbike. Let’s suppose that the motorbike will approximately serve for 10 years. Than the transportation expense from purchasing a motorcyle will be allocated as Rp 100,000.00 (12 millions divided by 10 years and divided again by 12 month). This Rp 100,000.00 will stay in the book as part of the transportation expense every month for 10 years.
So, according to accrual-based bookkeeping the total transportation of this month will be:
- The purchase of the motorbike - Rp. 100,000.00
- Gas or fuels, parking fees, etc. - Rp. 250.000.00
TOTAL TRANSPORTATION EXPENSE - Rp. 350,000.00
And how much will the next month total transportation expense be? Simple! It is totally constant and we see no more sharp fluctuation with this accrual based method:
- The purchase of the motorbike - Rp. 100,000.00
- Gas or fuels, parking fees, etc. - Rp. 250.000.00
TOTAL TRANSPORTATION EXPENSE - Rp. 350,000.00
The complexity of using accrual based accounting is growing as the company is growing as well. And using this accrual based bookkeeping requires adjustment entries at the end of each accounting period and often those adjustments are very complex, cumbersome and prone to human errors. But believe me, they are just a small price to pay for large organisation requiring numbers that accurately reflect the full value of the effort, accomplishment, and economic activity occurring during each accounting period. 
Wah a smart satpam! awesome!
It’s such as an estimation with certainty?
So don’t forget to accru the motorbike’s tax also.
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The Blog’s Owner:
The accountants like to call it “stability over a period of time” better than calling it “estimation with certainty”. The sharp fluctuation of expense will tend to twist the certain ratios at a point of time which of course incorrectly represent the actual economic stand of the entity.
Yes of course the VAT is often included too but for simplicity the tax is omitted in the example above.