Outstanding Expenses

We often hear the term outstanding expenses in an accounting context.

Those are unpaid expenditures.

In other words, those are incurred but remain unpaid.

Those amounts don’t necessarily fall into the group of Bad or Doubtful.

There can be a valid reason, such as 

• Delay in payment can be due to the credit period agreed between both parties or 
• Disputes
• Pending quality check report for the goods received

So, those are the current period expenditures per the Matching Account principle. The only difference is just a deferment in payments.

How about an Outstanding Expenses example?

Fours and Sixes Company is in the business of manufacturing Cricket Bats. The Company has been in this business for more than two decades and has high-profile customers due to its long-lasting quality products.

The Major raw material is a variety of timbers to produce different quality types of Cricket Bats. Due to a Surge in demand, the Company entered into a contract with a new supplier. The terms of the agreement require payment only once in 2 months to the new supplier. 

The Company is closing its books of accounts on 30th September to publish its financials for the quarter ending on 30th September. However, it was unsure how to account for this transaction and had the following questions.

1. Does it need to record the September purchases this quarter or after this quarter as the payments are due only after two months?
2. Is there any provision per GAAP to apportion the purchase cost over the next two months until the occurrence of payments?

Solution

Per Prudence Principle, there shall not be overstatement or understatement of any GL balances. The purchases made in September are related to the current quarter. Just because the mere fact of having a credit period that falls outside the current quarter does not result in deferring the accounting. So, the entity needs to record all the purchases during September in the current quarter.

Following any of the above approaches mentioned in the above questions will result in understating Liabilities and expenses.

Nature of Outstanding Expense

Outstanding expenses are liabilities settled within the business’s operating cycle. So, those are nothing but short-term liabilities. 

Thus, this GL account will have a Credit balance and falls under the Current Liability group.

One Liner Questions

Is outstanding expenses current Liability?

Yes, it’s a Current Liability.

Is outstanding expenses a current asset?

Nope

Where are outstanding expenses recorded?

Outstanding Expenses are recorded as Current Liabilities under the Liabilities side of the balance sheet.

What are examples of outstanding expenses?

The day-to-day examples will be electricity bills, sewerage charges, and postpaid mobile bills.

What is an outstanding asset?

That’s receivable, and there will be an inflow of funds due to the business.

Advantages of recording the Outstanding expenses

1. Accounting for these expenditures results in compliance with GAAP.
2. Reflects the true financial performance of the Entity
3. Ensures there is no understatement of Liabilities and expenses
4. Helps the Management to present correct Financial Rations such as Current Ratio, Quick Ratio, and so on to the various Stakeholders.

Related Article: Outstanding Expense Journal entry

Interview Asks

What is the treatment of Outstanding Expenses?

We need record the Outstanding expenses under the credit side of the Journal entry with a corresponding debit to the respective expenses. So, Outstanding expenses will be part of the Current Liability in the Balance sheet. However, it offsets on happening of payment. Payment entry is recorded by debiting the outstanding expenses and crediting the bank account. 

What are the outstanding expenses?

Outstanding expenses are short-term Liabilities against either operating expenses or non-operating expenses. That’s a Liability that is incurred but unpaid. 

The word incurred means the business received benefit out of it. For example, consider the outstanding internet charges. The business received the internet service for a full month and is unpaid as of month end because the current month’s due date falls on the 5th of next month.

Can you develop a system to ensure accurate recording of outstanding expenses?

We need a proper tracking system to ensure no undercharge or overcharge of any expenses. 

The best way is to set up an Excel tracker and record all expenses as and when incurred. Periodic reconciliation of all the expenses entered in the Excel tracker with Invoices received shall be in place. 

It seems that maintaining Excel records can be duplicated. But there are some good reasons for maintaining an Excel tracker. Let’s explore those.

1. Assist in recording accruals during the end of the period as we have all the expense heads together in one Excel (Handy data)
2. Helps in budgeting for next year as we have all the historical and current year data
3. Also, keeps a check of current period expenditure through performing year-over-year or month-over-month Analytics.
4. We can do a Graphical representation of data through Excel tools. 
5. Invoices are mostly in pdf version. So, we need to perform all the math for the numbers in the invoice separately through a calculator/excel. Instead of all these manual calculations, we can have a predefined format for each vendor that calculates the sales or service tax, individual totals for each line, and grand totals based on the prices mentioned in invoices. If we have a system that reads pdf application then its a different story. If not, excel will help you.

Note: The above steps are added in considering small scale business units which could not afford high pricy software applications

What’s the impact of the outstanding expenses on Cash Flow?

Outstanding expenses will be part of the working capital changes. An increase in outstanding expenses in the current period, when compared with the previous reporting period, results in an increase in cash balance. So, the increased amount of this Liability will be added back to the net income in the cash flow statement.

What are the common mistakes in the accounting of outstanding expenses?

The following mistakes can happen in the recording of outstanding expenses

• There can be undercharge or overcharge of the Liability amount
• Recording it to a wrong vendor (Sub Ledger)
• Error of Transposition (For example, Recording invoice amount as $578 instead of $587.
• Accounting of expenses to incorrect head (For example, Stationery expenses recorded as telephone expenses)

We shouldn’t stop there. 

It provides a positive impact if we can also speak about the solutions.

What are the best practices to avoid mistakes?

• Periodical Reconciliation of the recorded expenses with invoices or Excel trackers
• Segregation of duties (Maker and Checker Policy). There shall be two persons involved in the recording of the transaction. One person prepares the journal entry, and the other person reviews and approves it
• Adequate training for the accounting staff
• To Check for the competency of the persons before hiring         

Crux:

Outstanding expenses are Liability that needs to be cleared within 12 months. So, it’s a short-term liability. These GL accounts act as a placeholder in the books of accounts as there is a gap between the happening of a transaction and payment.

These GL accounts will have a Credit balance. Periodical reconciliation and audit of these transactions help clear the dues on time to avoid penalties/liquidated damages for delayed payments.

Understanding the interview questions above will help develop a proper system to record outstanding expenses accurately.