Definition: An incurred cost in accrual accounting is the moment in time when a resource or asset is consumed and an expense is recorded. In other words, it’s when a company uses an asset or becomes liable for the use of an asset in the production of a product. These assets cease to be a resource and are converted into an expense.
What Does Incurred Cost Mean?
This accrual accounting concept requires businesses to record expenses when they are incurred rather than when they are paid. This way the expenses are of the company are recorded in the same period as the revenues related to those expenses. This concept is called the matching principle. GAAP requires that the matching principle be used on all financial accounting and statements in order to present a consistent picture of the company’s activities.
Let’s take a look at an example when certain costs are incurred.
Example
Sarah is the accountant of Sedlex Company and she has to determine which costs have already been incurred in July based on the following information:
Machinery, life 1yr, $300,000
Prepaid rent at the start of the year $12,000
The company receives its telephone bill on the 15th of every month and has steadily been $75
Supplies inventory, originally $30, is now only half its original quantity.
Here are the costs that would be incurred and expensed during the period.
Depreciation: $25,000
All months that benefited from the use of the machinery must also share in its cost. Depreciation expense in July is $ 25,000, the total cost divided by its life in months.
Rental: $1,000
Prepaid rent at the beginning of the year becomes an incurred cost as the company uses up its benefits over it. That is the total divided by the number of months.
Telephone: $75
Although the company has yet to receive its billing statement, it is already liable for its communication expense since it has used this resource for the month.
Supplies: $15
The cost incurred for supplies only includes the used up portion of such. The other half remains an asset at the end of the month.
As you can see, these costs are incurred when they are used up or the company has become liable for them. Thus, they are recorded as expenses in this period.
