Companies pay compensation to their employees in many forms. The primary source comes from salaries and wages that the employee earns from their work. However, companies may also provide additional benefits. One includes vacation pay which involves employees getting paid for their entitled vacation time. However, accounting for these benefits may be complex.
One such complexity stems from recording accrued vacation. Before discussing its accounting treatment, it is crucial to understand what it is.
What is Accrued Vacation?
Accrued vacation is the amount of vacation pay an employee has earned but not yet claimed or received. It comes from vacation pay that companies may offer in several forms. Usually, it differs from one company to another based on their policies. However, when accounting for these amounts, companies must calculate them for each pay period. In most cases, vacation pay is a percentage of an employee’s gross wage.
An accrued vacation represents an earned income from the employee. For the employer, it is an expense. Despite the payment not occurring at the date, accounting standards require companies to account for these amounts once they accrue. Therefore, companies must recognize the expense regardless of when the settlement occurs. Companies must also update the accrual at the end of each accounting period.
How to account for Accrued Vacation?
The accounting treatment for accrued vacation falls under the accrual concept in accounting. Under this concept, companies must record expenses when they occur rather than when settling the amount. However, it may require various calculations. Usually, companies must track the following information for each employee to record the accrued vacation.
- The accrued vacation amount already recorded for the employee.
- The accrued vacation pay amount earned during the period, depending on the company’s policies and employment contract.
- The accrued vacation amount settled during the year.
Based on these amounts, the company can then calculate and record the accrued vacation balance in total.
What is the journal entry for Accrued Vacation?
There are two stages to recording the journal entry for accrued vacation. The first occurs when an employee becomes entitled to vacation pay during the period. At this point, the employee has earned the amount but has not received payment for it. The company must record it using the following journal entry.
| Dr | Salaries and wages expense |
| Cr | Accrued expenses |
During the period, some employees may also receive a payment for vacation pay they have earned before. The company does not have to record it since it has already been recognized. At this point, the company only accounts for the payment made and the decrease in vacation accrual. The journal entry is as follows.
| Dr | Accrued expenses |
| Cr | Cash or bank |
Example
A company, Red Co., pays 4% of gross wages as vacation pay. During the period, the gross wages for all employees was $20,000, bringing the vacation pay amount to $8,000. Red Co. recorded this amount as follows.
| Dr | Salaries and wages expense | $8,000 |
| Cr | Accrued expenses | $8,000 |
During the same period, Red Co. paid $5,000 cash to employees for vacation accruals accumulated previously. The company used the following journal entry to record the amount.
| Dr | Accrued expenses | $5,000 |
| Cr | Cash | $5,000 |
Conclusion
Vacation pay is the amount employees become entitled to for their vacation time. Companies record this amount when the employees earn it. At this point, the entitlement is known as accrued vacation. Companies must track various aspects to report an accurate vacation accrual on their statements. Companies account for this amount in two stages.
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