The Accrual That Never Reversed
At fiscal year-end, AP accrued $420,000 for goods received but not invoiced (GRNI). In January, the invoices arrive totaling $395,000 for those receipts. Separately, $60,000 of the accrual relates to a PO that was cancelled in December but never closed in the system. The January AP clerk posts the $395,000 invoices against the GRNI account, leaving a $25,000 residual balance plus the $60,000 cancelled-PO amount - $85,000 sitting in the accrual account. The controller notices the GRNI balance is not zero at January close and asks you to explain. The external auditors are scheduled in three weeks and have flagged GRNI as a key audit matter.
1. Reconcile the $85,000 residual. What is the correct treatment of each component?
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Break it into its two causes:
- $25,000 timing/price difference: the accrual estimated $420,000 but actual invoices were $395,000. The $25,000 is an over-accrual - it should be reversed to the P&L (or the appropriate expense account) in January, not left in the balance sheet. The original accrual was an estimate; the true liability was $395,000.
- $60,000 cancelled PO: the accrual was recorded for goods that were never received because the PO was cancelled. This is a stale accrual - it should be reversed. But first confirm no goods were received (check receiving records); if goods were received and the PO cancelled afterward, the liability may still be real and payable.
Correct end state: GRNI balance returns to $0 for these items after adjustments. The $85,000 must not remain as a plug.
Audit point: Unexplained residual accrual balances are a classic audit finding - they suggest the accrual process is not reconciled to actuals.
2. What process failed, and how would you prevent a repeat?
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Failures:
- No automatic reversal/reconciliation: the accrual was posted but never systematically matched to incoming invoices or reversed when POs were cancelled.
- Cancelled POs not closed: the system allowed a cancelled PO to remain open with an accrual attached.
- No aging review: a $60,000 stale item sat unnoticed until the controller happened to look.
Preventive controls:
- GRNI aging report reviewed monthly; any item over 30/60 days investigated and cleared.
- Automatic reversal of accruals at the start of the next period, with invoices re-accrued if they arrive late - forces reconciliation.
- PO closure control: cancelling a PO must trigger review of any associated accrual.
- Three-way match discipline: invoices should clear the accrual automatically when matched to the receipt.
Audit framing: Present the reconciliation, the root cause, and the new control. Auditors care less about the $85,000 than about whether the process can produce a reliable number next time.
3. The auditors ask why the $25,000 over-accrual was not caught at year-end. How do you respond?
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Be direct and evidence-based. The over-accrual arose because the year-end estimate was based on open receipts without a subsequent true-up against actual invoices - a timing gap inherent to estimating GRNI before invoices arrive.
Response structure:
- Acknowledge the estimate was $420,000 vs. actual $395,000 - a 6% variance.
- Explain the mechanism: the accrual was estimated at close; invoices arrived in January; the difference is a normal estimation variance, now reversed.
- Show the control that catches it: the monthly GRNI reconciliation and aging review now clears residuals within the following period.
- Quantify materiality: $25,000 against the accrual base and overall materiality - assess whether it was material to the financial statements; if immaterial, say so with the calculation.
Do not characterize it as 'just a timing difference' without showing the reversal actually happened. The auditor's real question is whether the balance sheet is clean now - demonstrate the zero balance with support.