To allocate an expense to the correct period, ask one question: which year did the business get the benefit of this cost? The expense in the income statement is the cost of that year’s benefit, not the cash that left the bank. This idea sits behind every accrual and prepayment, and it appears whenever a question gives the cash paid and then adds a note about something owed or paid early.
It is the first lesson in accruals and prepayments and builds on the ledger balancing from double-entry foundations.
Why does cash paid not equal the expense?
A business pays bills on its own timetable. A shop might pay the electricity bill a month after the electricity is used, and pay rent a month before the space is used. If the income statement copied the cash book, one year could carry thirteen months of rent and the next only eleven.
The accounting rule is to match each cost to the period in which it helps earn revenue. Two things can separate the cash figure from the expense:
- An amount still owed for the year is added to the cash paid. This is an accrual.
- An amount paid for a later year is taken out of the cash paid. This is a prepayment.
How do you adjust the cash figure, step by step?
- Write down the cash paid for the expense in the year.
- Find the period each payment covers from the dates or notes in the question.
- Add what is owed for this year but not yet paid.
- Subtract what was paid for next year.
- State the result as the expense for the year, then say whether the adjustment is a liability or an asset.
Worked example
Warung Mawar has a year end of 31 December 2025. The cash book shows three payments during the year:
| Expense | Cash paid (RM) | Extra information |
|---|---|---|
| Electricity | 3,600 | The December bill of RM 340 arrived in January 2026 and is unpaid |
| Rent | 7,200 | Includes RM 600 for January 2026 |
| Wages | 24,000 | All wages for 2025 were paid by 31 December |
Step 1, electricity: the December electricity was used in 2025. Expense = 3,600 + 340 = RM 3,940. The RM 340 is an accrual (liability).
Step 2, rent: RM 600 of the payment belongs to 2026. Expense = 7,200 − 600 = RM 6,600. The RM 600 is a prepayment (asset).
Step 3, wages: nothing is owed or paid early. Expense = RM 24,000.
Step 4, check: cash paid was 3,600 + 7,200 + 24,000 = RM 34,800. The expenses are 3,940 + 6,600 + 24,000 = RM 34,540. The difference is +340 − 600 = −260, and 34,800 − 260 = 34,540, which agrees.
The mistake to watch for
A common slip is to put the cash paid straight into the income statement and treat the note as an afterthought.
Mistaken answer: Electricity RM 3,600, rent RM 7,200, wages RM 24,000, total RM 34,800.
The student copied the cash book. December electricity was used in 2025 but missed, and January’s rent was charged to the wrong year.
The correction is to read the note first and ask “which year?” for every payment. Profit in the mistaken answer is understated by RM 260, because expenses are RM 260 too high. A one-line check helps: after adjusting, every expense should only contain this year’s benefit.
Check yourself
Try these on paper, then open each answer.
1. Taman Kasih paid RM 1,150 for water during the year. This included RM 150 for the first month of next year. What is the water expense for the year?
Show answer
RM 150 belongs to next year, so it is taken out. 1,150 − 150 = RM 1,000. The RM 150 is a prepayment.
2. A clinic paid RM 2,000 for telephone during the year. The bill for the last month, RM 220, was unpaid at the year end. What is the telephone expense, and where does the RM 220 appear in the statement of financial position?
Show answer
The unpaid amount is added. 2,000 + 220 = RM 2,220. The RM 220 is a current liability (an accrued expense).
3. Is each item an asset or a liability at the year end? (a) rent paid in advance, (b) electricity used but unpaid.
Show answer
(a) Asset, because the business has paid for a benefit it has not yet received. (b) Liability, because the business owes money for a benefit it has already used.
Where this leads next
Once the idea of matching feels natural, move on to calculating a prepaid amount from dates, where you work out the adjustment from a payment date and a cover period. Test your entries in the double-entry and ledger trainer and return to the module overview for the full route.
Some students follow each step here but still lose marks when the adjustment is buried in a long question. That is the kind of pattern our teachers look for in online one-to-one Accounting tuition.