A proper annual financial statement requires expenses and income to be allocated to the correct accounting periods. It is not sufficient to rely solely on payment dates, as the decisive factor is when the underlying service was actually rendered. To correctly reflect the timing differences between payments and services, accruals and deferrals are used.

This article explains what accruals and deferrals are, when businesses in Germany are required to recognize them, and how different types are distinguished. It also clarifies the difference between prepaid and accrued expenses, as well as transitory and anticipatory accruals.

What’s in this article?

• What are accruals and deferrals?
  
• The legal basis for accruals and deferrals in Germany
  
• The difference between prepaid and deferred items
  
• What are transitory accruals?
  
• What are anticipatory accruals?
  
• How prepaid and accrued expenses are recognized correctly
  

What are accruals and deferrals?

Accruals and deferrals are a core element of accrual-basis accounting. Their purpose is to allocate expenses and income to the correct financial year. In accounting, they are used to balance timing differences between the provision of a service and the related payment. They are applied whenever payments are made before or after the period to which the underlying service economically relates. In such cases, immediate recognition in the annual financial statement would distort the company’s financial position.

Under the cash-basis method (Einnahmen-Überschuss-Rechnung or EÜR), profits are determined based on actual cash inflows and outflows. In contrast, under accrual-basis accounting, the decisive factor is the financial year in which income and expenses are economically incurred.

When are businesses in Germany required to recognize accruals and deferrals?

Accruals and deferrals must be recognized whenever payments do not coincide with the period in which the related service is rendered. Businesses subject to accounting requirements must allocate income and expenses to the financial year in which the economic cause arises, not necessarily the year in which payment is made.

The main function of accruals and deferrals is therefore the period-appropriate allocation of income and expenses. Without them, a company’s profits would be misstated, as cash flows would be attributed to incorrect periods. Proper use of accruals ensures that a business’s annual financial statement reflects its actual financial position. This transparency is key both for the business’s management and German tax authorities and investors.

Key distinctions in accrual accounting

To understand accruals and deferrals, it is important to distinguish between the following concepts:

• Cash receipts (Einnahmen): All inflows of cash or cash equivalents received through sales, services, or other transactions.

• Income (Erträge): Increases in equity or business assets within a period, regardless of whether cash has been received. Income represents the value generated within a given period, regardless of whether an actual cash inflow occurs.

• Cash payments (Ausgaben): All outflows of cash, such as payments for goods or services, or the settlement of liabilities.

• Expenses (Aufwendungen): The consumption of goods or services that reduces equity, irrespective of the payment date.

The legal basis for accruals and deferrals in Germany

The legal basis for accrual accounting in Germany is primarily derived from the German Commercial Code (Handelsgesetzbuch or HGB) and the Income Tax Act (Einkommensteuergesetz or EStG). Section 250 HGB and Section 5, paragraph 5 EStG require businesses to allocate expenses and income to the correct accounting periods. In addition, the German Income Tax Guidelines (R 5.6 EStR) and Commercial Guidelines (H 5.6) provide further clarification on how accruals and deferrals must be applied in practice for tax accounting purposes.

Large and medium-sized corporations are also required under Section 274 HGB to recognize deferred tax assets and liabilities in their commercial balance sheets. Small and microcorporations are exempt from this requirement under Section 274a in conjunction with Section 267a, paragraph 2 HGB, provided they are not required to recognize provisions under Section 249, paragraph 1, number 1 HGB.

The difference between prepaid and deferred items

There are two basic types of accruals and deferrals: prepaid expenses (or active accruals) and deferred income (passive accruals).

Prepaid expenses (active accruals)

Prepaid expenses arise when payments are made before the end of the financial year, but the related service is not rendered until the following year. A typical example is an insurance premium paid at year-end that covers insurance protection for the next financial year. The portion attributable to the subsequent year must be recognized as a prepaid expense on the balance sheet.

Deferred income (passive accruals)

Deferred income arises when payments are received before the end of the financial year, but the related service will only be rendered in the following year. This applies, for example, to advance payments for services or products that will be delivered in the next year. Such amounts must be recognized as deferred income at year-end.

Stripe Revenue Recognition is automated software that helps companies with recording revenue on an accrual basis. The tool matches payments according to periods of performance, reduces manual errors, and makes filing monthly and annual statements easier—especially with respect to recurring payments such as subscriptions or prepayments.

What are transitory accruals?

Prepaid expenses and deferred income belong to a category known as “transitory accruals.” “Transitory,” in this case, means that the payment occurs in the current financial year, while the related service is provided in the subsequent year.

Example of a transitory accrual

Let’s say a medium-sized company subject to accounting requirements operates a small vehicle fleet. Its financial year corresponds to the calendar year. On November 15, 2026, the company takes out a fleet insurance policy covering the period from December 1, 2026 to November 30, 2027. The insurance premium amounts to €6,000 and is paid in full on November 20, 2026.

Although the payment is made in 2026, most of the insurance coverage relates to 2027. The company must therefore recognize a prepaid expense to allocate the cost correctly to the following year.

Accounting treatment:

• The full insurance premium of €6,000 is initially recorded as an expense.
  
• Only one-twelfth relates to December 2026. The remaining eleven-twelfths, amounting to €5,500, are recognized as a prepaid expense.
  
• In 2027, the prepaid expense will be released in monthly installments of €500 from January through November and recognized as an expense.
  

What are anticipatory accruals?

Anticipatory accruals relate to services that are already rendered in the current financial year, while payment is only received or made in the subsequent year. In this case, the income or expense is recognized in advance to ensure correct period allocation. The objective is to ensure that income or expenses are recognized in the financial year in which the underlying service was actually performed.

Under Section 250 HGB, anticipatory items are not recognized as classic accruals and deferrals. In practice, they are recorded as other receivables or other liabilities, although they serve the same economic purpose.

Example of an anticipatory accrual

Let’s say a company rents out part of its office space to another business. The monthly rent is €2,000. The rent for December 2026 will be paid in January 2027.

Although the payment will be received the following year, the rental service was rendered in December 2026. The rental income must therefore be recognized in the company’s 2026 financial statement. At year-end, another receivable of €2,000 needs to be recorded on the asset side of the balance sheet. Then, when payment is received in January 2027, the receivable will be settled without affecting income.

Accounting treatment:

• Assume it is the tail end of 2026. The company has not yet received the payment for December 2026.
  
• However, because the service was already provided in December, the rental income has been recorded in FY 2026.
  
• In the company’s 2026 financial statement, it entered another receivable for this in the amount of €2,000 on the asset side of the balance sheet.
  
• In January 2027, the payment will be received and will settle the receivable without further affecting the income.
  

How prepaid and accrued expenses are recognized correctly

Prepaid expenses are recognized as prepaid accruals, while accrued expenses are recognized as other liabilities. The distinction follows from the concepts of transitory and anticipatory accruals. This ensures that expenses are always recognized in the correct financial year, regardless of when payment occurs.