Accruals vs Provisions
Accruals and provisions are both essential aspects of a firm’s financial statements, and serve the purpose of providing users of financial information an insight regarding the company’s current financial status and the changes expected in the future. Both accruals and provisions are equally important, and the accountant must ensure that they are accurately recorded. Due to the subtle differences between the concepts, they are easily confused and misunderstood. The following article will highlight the difference between them and explain what they actually portray in the financial statements of a firm.
What are Accruals?
Accruals are made for the expenses or revenue that are already known by the firm, and are recorded in the financial statements as and when they occur, before the exchange of cash and funds take place. This form of accounting ensures that all financial information including sales on credit and end of the month interest to be paid are recorded for the period. Accruals make up of those which are to be paid such as wages due at the end of the month and receivables such as funds to be received by debtors. Accruals are a vital component in the accounting statements because they show the amounts that the firm is known to receive and pay in the future, which can help the company better prepare their resources and plans for the future by incorporating this information in decision-making.
What are Provisions?
When a company expects a future outflow of cash due to a predicted event, the firm will set aside a certain sum of money to pay off these expenses as they arrive. This is known as provision in accounting terminology, and according to the financial reporting standards, a firm is under obligation to record this information in their accounting books. Keeping provisions for expected future expenses help a firm control its finances and ensure that sufficient funds are available to pay for the necessary expenses, if and when they arise. The different types of provision include provisions made on depreciation of an asset and provisions for bad debts. Provisions for depreciation of an asset is where money is kept aside to replace the asset as the asset becomes obsolete or wears out. Provisions for bad debts are held assuming that the cash owed will not be paid back, so that the company does not make huge losses in the event that the worst happens.
What is the difference between Accruals and Provisions?
Information recorded under the provisions and accruals in the financial statements facilitate decision-making and ensure that the company’s decisions are based on the receipts and expenses expected in the future. Accruals are made for both receipts and payments, whereas provisions are made only for expected future expenses. Accruals ensure that accounting data is recorded as and when the incomes or expenses are made known, instead of waiting for the funds actually to exchange hands. On the other hand, provisions are recorded when expenses or future losses are expected by a firm as a method for preparing for those expenses through a safety buffer of cash to use, if and when losses are made.
In a nutshell,
Accruals vs Provisions
• Accruals and Provisions are essential as they show the company’s stakeholders the types of revenues and expenses expected by a firm, and help the company managers in decision making and planning.
• Accruals are made for expenses already known and expected to materialize in the future, whereas provisions are made for expected future losses, so that these losses may be recovered from the provisions kept aside.
• Accruals are made for expected revenues, as well as expenses, and provisions are only made on behalf of expenses predicted.