What is the effect on the financial statements when salaries are accrued at year-end?

• A. Expenses increase and Liabilities increase
• B. Assets increase and Revenues decrease
• C. Liabilities decrease and Expenses increase
• D. Revenues increase and Liabilities decrease

Answer: (A)

Accrual accounting records expenses when they are incurred and recognizes a liability when you owe that amount but haven’t paid yet. At year-end, salaries that have been earned by employees but not yet paid are an example of this adjusting entry: you record the expense and you create a liability. Conceptually, you would debit Salaries Expense to reflect the cost of labor for the period, and you credit a current liability (Salaries Payable) to show the amount owed. This raises the expense on the income statement and increases liabilities on the balance sheet, with no change to revenues. The effect on assets is none at this moment. When the salaries are eventually paid, cash decreases and the liability is reduced, but that payment does not change the fact that the accrual period increased expenses and liabilities.