How is interest on debt recognized under accrual accounting?

• A. Recognize interest expense as incurred
• B. Record interest when cash is paid
• C. Recognize only when billed by lender
• D. Do not record until year-end

Answer: (A)

In accrual accounting, expenses are recognized when incurred, not when cash changes hands. For interest on debt, that means you accrue the interest as time passes and record a liability for the amount that has accrued, even if you haven’t paid it yet. The typical entry is to debit Interest Expense and credit Interest Payable in the period the interest accrues. When you actually pay later, you would debit Interest Payable and credit Cash to settle the obligation. This timing keeps expenses aligned with the period they relate to, following the matching principle.

Recording only when cash is paid, or only when billed, or waiting until year-end would distort when the expense is recognized and misstate both expenses and liabilities. Under accrual accounting, you recognize based on the passage of time, not the cash flow.