What is the matching principle?

Definition of Matching Principle

The matching principle is one of the basic underlying guidelines in accounting. The matching principle directs a company to report an expense on its income statement in the period in which the related revenues are earned. Further, it results in a liability to appear on the balance sheet for the end of the accounting period. The matching principle is associated with the accrual basis of accounting and adjusting entries.

If an expense is not directly tied to revenues, the expense should be reported on the income statement in the accounting period in which it expires or is used up. If the future benefit of a cost cannot be determined, it should be charged to expense immediately.

Examples of the Matching Principle

To illustrate the matching principle, let's assume that a company's sales are made entirely through sales representatives (reps) who earn a 10% commission. The commissions are paid on the 15th day of the month following the calendar month of the sales. For instance, if the company has $60,000 of sales in December, the company will pay commissions of $6,000 on January 15.

The matching principle requires that $6,000 of commissions expense be reported on the December income statement along with the related December sales of $60,000. It also requires that the December 31 balance sheet report a current liability of $6,000. This is referred to as an accrual and is achieved through an adjusting entry dated December 31 that debits Commissions Expense for $6,000 and credits Commissions Payable for $6,000. (Without the matching principle and the adjusting entry, the company might report the $6,000 of commissions expense in January rather than in December when the expense and the liability were incurred.)

A retailer's or a manufacturer's cost of goods sold is another example of an expense that is matched with sales through a cause and effect relationship.

Not all costs and expenses have a cause and effect relationship with revenues. Hence, the matching principle may require a systematic allocation of a cost to the accounting periods in which the cost is used up. Hence, if a company purchases an elaborate office system for $252,000 that will be useful for 84 months, the company should report $3,000 of depreciation expense on each of its monthly income statements.

If the future benefit of a cost cannot be determined, it should be charged to expense immediately. For example, the entire cost of a television advertisement that is shown during the Olympics will be charged to advertising expense in the year that the ad is shown.