Matching Concept Principle, Solved Examples and FAQs

The matching principle is a part of the accrual accounting method and presents a more accurate picture of a company’s operations on the income statement. Accrual accounting is a process of matching revenues and expenditures in the same time frame. Thus, one cannot choose the matching principle over accrual accounting. This accounting concept states that all assets of the firm are entered into the books of account at their purchase price (cost of acquisition + transport + installation etc).

Find out how GoCardless can help you with ad hoc payments or recurring payments. Someone on our team will connect you with a financial professional in our network holding the correct designation and expertise. If any goods have been sold in a particular period, the first test is to ensure that they have been delivered or otherwise placed at the disposal of the buyer. If we include any revenue in a particular period, we should be sure of two key facts. If an expense is recognised too early, it will reduce net income, and if recognised too late, it will increase net income. Get instant access to lessons taught by experienced private equity pros and bulge bracket investment bankers including financial statement modeling, DCF, M&A, LBO, Comps and Excel Modeling.

• Similarly, accrued expenses are charged in the income statement in which they are incurred to match them with the current period’s revenue.
• All forms of business organizations (proprietorship, partnership, company, AOP, etc) must follow this assumption.
• The cost of goods sold is $1,000, which should be recognized in the same period as the revenue is recognized, aligning with the matching principle.
• One of the ways to implement the matching concept in accounting is to do a journal entry.
• The pay period for hourly employees ends on March 28, but employees continue to earn wages through March 31, which are paid to them on April 4.

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Examples of Matching Principle:

Assume we have sold the goods to our customers amount $70,000 for the month of December 2016. Consider a corporation that decides to establish a new office headquarters to increase worker productivity. Because there are four of them, the company’s total incentive expense will be $4,000 (4 $1000). HighRadius Autonomous Accounting Application consists of End-to-end Financial Close Automation, AI-powered Anomaly Detection and Account Reconciliation, and Connected Workspaces. Delivered as SaaS, our solutions seamlessly integrate bi-directionally with multiple systems including ERPs, HR, CRM, Payroll, and banks. The following example represents the matching principle for the Cost of Goods Sold (COGS).

• Therefore, it should depreciate the cost of the equipment at a rate of $50,000 per year for ten years, allowing the expense to be recognized throughout the entire useful life of the asset.
• Therefore, the commission expense should be recorded in January to be recognized in the same month as the connected transaction.
• In other words, businesses don’t have to wait to receive cash from customers to record the revenue from sales.

Online marketing costs are recognized as costs in the income statement for the period in which the ad is displayed, not when you receive the resulting revenue. It states that profit should not be included until it is realized. However, losses even those not realized but with the remote possibility of occurring should be included in the financial statements. So all losses are recognized – those that have occurred or are even likely to occur.

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But should be proportion to the economical use or in the ways how fixed assets contribute to sales revenue as well as production. There isn’t always a cause-and-effect relationship between costs and revenues. As a result of the principle, a systematic allocation of a cost to the accounting periods in which the cost is used up may be required. According to the principle, $6,000 in commissions must be disclosed on the December income statement, along with $60,000 in sales.

Follow Khatabook for the latest updates, news blogs, and articles related to micro, small and medium businesses (MSMEs), business tips, income tax, GST, salary, and accounting. Besides commissions, there are several examples of this principle, such as depreciation, employee bonus, and wages. The cost of the tractor is charged to depreciation expense at $10,000 per year for ten years. This takes place every year as the tractor’s value changes each year.

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Another example would be if a company were to spend $1 million on online marketing (Google AdWords). It may not be able to track the timing of the revenue that comes in, as customers may take months or years to make a purchase. In such a case, the marketing expense would appear on the income statement during the time period the ads are shown, instead of when revenues are received.

Matching Vs Accruals Vs Cash Basis

Therefore, the commission expense should be recorded in January to be recognized in the same month as the connected transaction. According to the matching principle, a corporation must disclose an expense on its income statement in the same period as the relevant revenues. Several examples of the matching principle are noted below, for commissions, depreciation, bonus payments, wages, and the cost of goods sold.

So in simpler terms, the profit earned will be recorded when it is actually earned. The matching principle is part of the Generally Accepted Accounting Principles (GAAP), based on the cause-and-effect relationship between spending and earning. It requires that any business expenses incurred must be recorded in the same period as related revenues.

If there is no cause-and-effect relationship leading to future related revenue, then the expenses can be recorded immediately without adjusting entries. The matching principle requires that expenses should be matched to revenues earned during an accounting period. The requirement for this concept is the allocation of cost to different accounting periods so that only relevant incomes and expenses are matched. This comparison will give the net profit or loss for that particular accounting period. When you use the cash basis of accounting, the recordation of accounting transactions is triggered by the movement of cash.

On the other hand, if you recognize it too late, this will raise net income. 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. The matching principle is quite important to users of the financial statements, especially to understand the nature of expenses recorded in the entity’s financial statements. For example, If the fixed assets amount to $50,000 and depreciation for five years as the result of economic use. Then, the depreciation expenses amount to $10,000 per year should be recorded. The matching principle is one of the accounting principles that require, as its name, the matching between revenues and their related expenses.

However, the matching principle matches expenses with the revenue they helped generate, as opposed to being recorded in the period the actual cash outflow was incurred. The expense must relate to the period in which the expense occurs rather than on the period of actually paying invoices. For example, if a business pays a 10% commission to sales representatives at the end of each month. If the company has $50,000 in sales in the month of December, the company will pay the commission of $5,000 next January. 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.