An encumbrance refers to funds committed to fulfilling contracts or purchase orders for goods and services. Government, non-profits, and organizations use encumbrances, commonly in conjunction with fund accounting.
In order to stay within their budget and avoid overspending, organizations utilize encumbrances when issuing purchase orders. Money is set aside for the transaction and is no longer able to used for other purposes. When the vendor is paid for the purchase order, the amount ceases to be an encumbrance and the payout is recorded.