Accrual Estimation and GAAP Rules

GAAP stands for general accepted accounting principles, the primary principles used in the United States to govern accounting procedures while not limiting business options in how they represent their financial data (in legal ways). GAAP will help decide both the accrual method of accounting, which businesses need to use, and what specific accrual accounts can be estimated by business accountants.

The accrual method is the common method required under GAAP accounting and expected by federal regulations. With the accrual method, all revenues are counted by the business when they are earned -- that is, by doing the work or performing the service -- while all expenses are accounted for when incurred, even if the business uses credit to cover its costs or has a delayed payment. This is different from the cash method, which only counts revenues and expenses when money actually moves between accounts. The accrual method is seen as more accurate in the long term, which is why GAAP requires it.

Accruals themselves should not be confused with the accrual method. The accrual method is an overarching method of looking at costs and income. The accruals themselves are the entries in the accrual method of accounting. These are accounts on the balance sheet where either assets or liabilities are accrued according to company actions. Usually accruals are not cash-based assets, so they deal with cash not yet received, such as accounts receivable and payable, or accounts such as future interest expense.

Among the accruals, there are certain accounts that GAAP allows to be estimated from period to period, usually because specific numbers are not available and the accounts need to be added for an accurate look at the business. For liabilities the company holds, taxes on real and personal may be estimated, as may compensation paid out in stock option plans and deferred plans the business has.

For estimated asset accruals, companies can typically estimate specific amounts of money that they believe they will be getting, but that may be altered by factors outside of the control of the company. For example, warranty claims may be estimated, as may property and casualty reserves on the part of the insurance company.