Accrued Taxes: Everything You Need to Know
Accrued taxes are taxes that have been assessed against a company's earned revenue or property value that has not been paid yet.3 min read
2. Definition of Accrued Expenses
3. Accrued Income Taxes vs. Deferred Taxes
4. Tax Accruals
Accrued taxes are taxes that have been assessed against a company's earned revenue or property value that has not been paid yet.
Definition of Accrued Taxes
In simple terms, accrued taxes refers to taxes assessed against a company that have not yet been paid, whether those taxes are on the company's earned revenue or on the value of any property the company owns. If a company fails to pay accrued taxes by a specific due date, additional penalties and interests may be applied to the total amount owed. Accrued taxes are also listed as liabilities on the company's books.
Definition of Accrued Expenses
Accrued expenses are expenses that are related to accounting and are listed on the company's books before they are paid. Accrued expenses are also listed as a liability and are typically current. These expenses are usually periodic in nature, and they should be documented on the company's books because there's a good chance that they're going to be collected. An accrued expense is the opposite of a prepaid expense. Companies usually accrue periodic expenses, such as:
- Employee wages
Although these expenses are going to be paid at some point in the future, they're listed on the company's books, starting from the date that the company can reasonably expect them to be paid until they're actually paid in full. For example, interest built up on a loan acquired from the bank would be considered an accrued expense.
Accrued Income Taxes vs. Deferred Taxes
These days, most companies use an accrual accounting structure. With this model, they make journal entries using deferrals and accruals to indicate expenses and revenue based on the Generally Accepted Accounting Principles, or GAAP. These deferrals and accruals should reflect their associated principles and realization principles for the purposes of accounting. Matching principles state that expenses need to be recognized at the same time as the revenues that they relate to.
Realization principles state that revenue needs to be recognized once the earning process has been completed and there is reasonable cause to hope for a payment to be collected from clients. Deferrals, otherwise known as "prepayments," are transactions that involve the flow of cash preceding the time at which expenses are recognized. Some examples of deferrals include:
- Prepaid insurance
- Prepaid supplies
- Unearned revenue
Accruals are the transactions in which revenue or expenses are recognized before funds are transferred from one party to another. Examples of accruals can include:
- Accrued rent
- Accrued salaries
- Accrued taxes
Accrued taxes can be thought of as liability accounts that reflect the total amount of taxes that are owed within a specific period of time. In other words, it's the amount the company currently owes in taxes that they have not yet paid. Deferred taxes, on the other hand, are considered to be asset accounts that provide an economic benefit to the organization at some point in the future. Basically, they're taxes that the company has prepaid but hasn't been billed for yet.
Whether you're dealing with deferred taxes or accrued taxes, they should both be adjusted once you reach the end of a period. This means you'll need to make entries for these adjustments on your company's books based on established accrual accounting practices. Due to the fact that prepaid expenses are considered assets, these adjustment entries should be treated as debits to their associated expenses and credits on associates assets. In the case of accrued taxes, however, the adjustment entry is treated as a debit on related expenses and a credit on related liabilities.
The Internal Revenue Service received almost 2.5 million tax returns from corporate entities in 2010. Every one of the filing companies was required to prepare tax accrual accounts in order to determine how much they owed in taxes. If you are a business owner and you or any of the other company members don't have a solid understanding of tax accruals, it's likely that you're going to encounter problems with the Internal Revenue Service.
Tax accruals are the establishment of tax liabilities and obligations that you enter into, whether it's because you have collected sales tax or as a result of self-assessing your use taxes.
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