What Is Matching Concept In Accounting

You should record the bonus expense within the year when the employee earned it. On a larger scale, you may consider purchasing a new building for your business. There’s no way to tell if a larger space or better location improves revenue. There is no direct relationship between these factors and a new building. Because of this, businesses often choose to spread the cost of the building over years or decades. An adjusting entry would now be used to record the rent expense and corresponding reduction in the rent prepayment in June.

If an expense is not directly tied to revenues, the expense should be reported on the income statement in the accounting period in which it expires or is used up. If the future benefit of a cost cannot be determined, it should be charged to expense immediately. This revenue was generated by the activities of the sales agents and the matching principle in accounting requires the matching of the sales commission expense to this revenue. Per the matching principle, expenses are recognized once the income resulting from the expenses is recognized and “earned” under accrual accounting standards. According to the realization accounting concept, revenue is only recognized when it is realized.

• In some cases, it will be necessary to conduct a systematic allocation of a cost across multiple reporting periods, such as when the purchase cost of a fixed asset is depreciated over several years.
• If the company has $50,000 in sales in the month of December, the company will pay the commission of $5,000 next January.
• The image below summarizes how the matching principle is part of the accrual basis of accounting.
• He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries.
• Read on to learn how HighRadius’ Autonomous Accounting Software helps you get rid of manual matching processes that lead to reporting inaccuracies.

The matching principle concept is extremely beneficial when it comes to reporting revenues and expenses. In such cases, the careful determination of such expenses has to be made and appropriate adjustments will be required in order to determine the proper profits (or loss) for the current accounting period. Accrual, on the other hand, is when you recognize assets and liabilities as soon as they are incurred regardless of when cash payments occur or when cash receipts are received. If you are stuck on this point, then it may be worth reviewing the accrual accounting definition and example. Certain financial elements of business also benefit from the use of the matching principle. The matching principle allows distributing an asset and matching it over the course of its useful life in order to balance the cost over a period.

Matching Concept in Accounting Example

PP&E, unlike current assets such as inventory, has a useful life assumption greater than one year. One of the most straightforward examples of understanding the matching principle is the concept of depreciation. In 2018, the company generated revenues of $100 million and thus will pay its employees a bonus of $5 million in February 2019. The matching concept is crucial for organizations to disclose their financial results properly. Consider that a business purchases specialised machinery at the expense of ₹250,000.

Matching principle therefore results in the presentation of a more balanced and consistent view of the financial performance of an organization than would result from the use of cash basis of accounting. Depreciation distributes the asset's cost over its expected life span according to the matching principle. This matches costs to sales and therefore gives a more accurate representation of the business, but results in a temporary discrepancy between profit/loss and the cash position of the business.

FAQs on Matching Concept

The going concern concept assumes that a business will continue to operate indefinitely. So it assumes that for the foreseeable future the business will not be winding up. This leads to the assumption that the business will not have to sell its assets any time soon and it will meet all its obligations as well.

Matching Principle for Depreciation

It serves as a fundamental principle in accounting that enhances the overall credibility and integrity of financial reporting. The matching concept/principle is a concept of accounting according to which a business needs to record its expenses in the same period of time as the revenues that they are related with. The matching of the expenses and revenues is done in the income statement for a time period. Business runs with the well-known concept that in order to make money, it is essential to spend money. The matching concept is aligned with adjusting entries and the accrual basis of accounting. It provides businesses with a means of recognising this idea while keeping their accounting records.

Matching Principle for Employee Bonuses

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What is matching concept in finance & accounting?

The matching principle states that the commission expense needs reporting in September’s income statement. If a company uses the money basis of accounting, the reporting of commission should be in October (in the month they were paid) instead of September (the month in which they incur). When you use the cash basis of accounting, the recordation of accounting transactions is triggered by the movement of cash.

This principle has its basis in the cause and effect relationship that exists between revenue and expenses. It needs a business to record all its business expenses in the same period as the revenues related to it. $4,000 of the estimated current are two incomes better than one for married taxpayers tax charge relates to prepaid income which shall be recognized in the subsequent accounting period. Consequently, $4,000 must be subtracted from the tax expense calculation and matched against the accounting profit earned in the next year.

This will plant a seed when the customer visits the website, even if the customer does not make any purchase then or for several years. Revenue cannot be directly correlated to spending in this case or any other similar cases. So, the expenses incurred for online search ads are recorded in the period of the expense rather than dispersed over a period of time. The matching principle works well in cases where revenues and expenses are clarified. But, there are times when the expenses will apply to more than one area of revenue, or it could even be vice versa.

So each transaction should be verifiable by supporting documents like vouchers, bills, letters, challans, certificates, invoices etc. This concept states that all relevant information will be disclosed in the accounting statements. A lot of external users depend on these financial statements for their information to make investing decisions.

While accrual accounting is not a flawless system, the standardization of financial statements encourages more consistency than cash-based accounting. The purpose of the matching principle is to maintain consistency in the core financial statements — in particular, the income statement and balance sheet. For example, if the office costs $10 million and is expected to last 10 years, the company would allocate $1 million of straight-line depreciation expense per year for 10 years.