Cash-Basis Vs. Accrual-Basis Accounting: Which One Is The Best and What’s The Difference Between The 2?

Cash-Basis Vs. Accrual-Basis Accounting

Cash-Basis Vs. Accrual-Basis Accounting

What Are They and Why It Matters

There are two primary accounting types: Cash-Basis and Accrual-Basis. The biggest difference between the two is timing. Cash-Basis tracks income and expenses as the cash flows in and out of the business whereas Accrual-Basis tracks income and expenses as they are incurred regardless of whether or not the cash has been exchanged. 

Cash-Basis Accounting

With cash-basis accounting all bookkeeping follows cash transactions. Revenue is tracked as it enters the business and expenses are tracked as they are paid. Tax payments are then calculated on net profit. 

Accounts payable and accounts receivable are not tracked until the cash enters or exits the companies accounts. This method is the easiest of the two and allows the business to know it’s cash status at all points in time. 

Accrual-Basis Accounting

Accrual-Basis accounting allows for a more accurate overall picture of the businesses financial status by accounting for revenue when it is earned and reflecting expenses in the period that they helped to generate revenue.

It combines the matching principle and the revenue recognition principle and is the only accounting method recognized by GAAP (Generally Accepted Accounting Principles) which are set by the FASB (Financial Accounting Standards Board)

Advantages and Disadvantages of Cash-Basis Vs. Accrual-Basis Accounting Methods

The biggest difference between Cash-Basis and Accrual-Basis relates to the timing of the revenue and expenses. 

Cash-basis accounting gives a business the advantage of having financial statements that closely reflect their cash position. It provides for simpler bookkeeping and taxes are only paid on revenue that has been collected. 

The disadvantage of cash-basis is that the financial statements may look distorted. Due to the distortions planning and forecasting can become complicated. Since this method is not recognized under GAAP lenders do not consider the financial statements as sufficient and this method is prohibited for use by publicly traded companies.

Accrual-basis accounting give a business the advantage of having a more accurate picture of the company’s finances. Accounts receivable and accounts payable systems show full transaction histories for customers, suppliers, and vendors. This method is also required under GAAP for larger scale companies and publicly traded companies.

The disadvantage of accrual-basis accounting comes with the amount of bookkeeping that is needed. Businesses must monitor more than just the cash flow in and out. They must account for and monitor receivables, payables, and liabilities along with closing the books on a monthly basis.

The second disadvantage is that the cash flow is obscured making the business look more profitable than it may actually be. 

Choosing Your Accounting Method

Ultimately the choice between cash-basis vs. accrual-basis accounting depends on the size of your business and recommendations from your CPA. 

At My Virtual BooKeeper we use both cash-basis and accrual-basis bookkeeping depending on the needs of the business we are serving. Click here to schedule your complimentary business consultation TODAY or check out our shop here!

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