The Accrued Audit Fees Journal entry relates to audit fees that are incurred but not paid, i.e., to outstanding expenses.
So, that’s a liability account.
Audit fees are expenses the audit professional charges for verifying and testing the business’s books of accounts.
Such auditors can be internal or external.
Management appoints internal auditors to ensure that the established system, procedures, and controls function as anticipated.
The reports of these findings have not been made public. However, the external auditors are to audit the books and will opine whether the financial statements represent a true and fair view. Therefore, such audit fees paid to internal and external auditors are expenditures to the business. Such an audit fee journal entry will be similar to any other expense entry of the company.
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What does the word “incur” mean here?
Every financial transaction will have two aspects. Similarly, there will be some inflow of benefits against an outflow.
Example 1:
Suppose you buy a pen worth $10 from a bookshop. The benefit coming in is a pen worth $10, and you are losing the equivalent of that money.
Before understanding the term ‘ incur ‘, let’s move into a higher-level example.
Example 2:
Companies appoint an auditor to verify the books of accounts and issue an opinion on those. Let’s see the benefits here –
Benefits Received – Audit Service
Benefits Given – Money
Let’s Learn the definition of the term “Incurred”
Definition for the term Incurred:
Incurred is a term used in cases where benefits are received but the amount isn’t paid. So, the second aspect of the transaction (Payment) has yet to be completed here.
Accrued Audit Fees Journal Entry:
The two General Ledger (GL) accounts in this transaction are accrued audit fees A/c and audit fees A/c.
Let’s see what the debit accounts and credit accounts are here.
1. Audit Fees GL is an Expense account. Per Nominal Accounts Golden Rule of Accounting, Debit all Expenses & Losses, and Credit all Incomes & Gains.
2. Accrued Audit Fees GL is the Personal Account. Per the Personal Account rule, Debit the receiver and Credit the giver.
JE 1 – Journal Entry when Accrued audit fees are incurred:
The audit fees are payable and due to the auditor. So, we need to credit the liability account. Often, bookkeepers tend to ensure that the GL name includes the details of to whom the liability is due.
Let’s say the Liability is due to M/s. ABC & Co. Then, the liability GL will be ABC Accrued Audit Fees. This approach of naming the GL accounts is more convenient.
JE 2 – Journal entry when the expenses are paid:
JE 3 – What is a net entry for Accrued Audit Fees?
Accrued Audit Fees GL gets nullified. The net entry is
Generally, the above third entry comes into the picture if there is no delay between incurring the services and the payment date. If there is no credit period, there is no requirement to affect the Accrued audit fees GL in the Journal Entries.
However, it’s common to follow the above two entries instead of just the net entry, even if no credit is involved.
Practical Challenges for Recording Accrued Audit Fees Journal Entry:
Accrual of Audit fees happens if the entity does not receive the invoice before the closing of account books (Year-end).
Audit fees sometimes include out-of-pocket expenses incurred by the auditor and his team, such as travel, accommodation, conveyance, and food expenses.
The best estimate considers the previous year’s audit fees and adds any nominal increase (Say 5%). Another critical point to consider is checking the current year’s audit scope.
How about an example here?
Let’s say Stock Audit Fees are the subject of this Journal entry. Historically, the entity requests auditors to perform a stock audit of all its Go-downs. However, the entity started a new branch to expand its business to other areas in the Current Year. The entity also wants to get this branch under the purview of audits.
This scenario is a clear-cut situation of increased work and scope. So, there will be an increase in the audit fees. So, the entity needs to increase the audit fees, considering this as well.
In General, the Auditor and management discuss this fee before the commencement of audit work. The accounting team shall coordinate with the management to get a proper audit fee estimate.
Conclusion:
An accrued audit fees journal entry is an entry that records the accrual of audit fees for the year. The general question for recording any of these entries is – Why shall we record the audit fees journal entry even though the payment does not happen? This accounting treatment adheres to the accrual basis of accounting. Accrual basis means recording the transaction irrespective of receipt or cash payment, at the same time or later. The journal entry debits the audit fees GL and credits the accrued audit fees or bank if the amount is paid immediately.
