Cash vs Accrual (Accounting)
There are two methods used in accounting to record income and expenses which are known as cash basis accounting and accruals basis accounting. The method of accounting chosen will influence the manner in which transactions and business activities will be recorded in the books and will affect the final profit numbers. Small businesses usually use the cash basis of accounting, and larger businesses follow the accruals basis of accounting. The article offers a comprehensive explanation on each type of accounting and shows the similarities and differences between cash and accrual basis accounting.
Cash Basis Accounting
Cash basis accounting recognizes revenues and expenses at the time that the funds are being received or paid out. It monitors the actual movement of the funds and does not take into consideration accounts receivable or payable. For example, a plumber that uses cash basis accounting will record his income from a job only after the cash has been paid to him. Cash method is quite simple and flexible. Cash basis accounting takes into consideration the movement of cash, or the company’s cash flows. The disadvantage with this method is that it does not record accounts payable or receivable and, therefore, makes these difficult to manage. Since cash basis accounting does not record payables and receivables, it offers quite a narrow outlook over the firm’s operations; especially the firm’s long term plans.
Accrual Basis Accounting
Accruals basis in accounting will recognize revenues and expenses when they are earned and incurred. For example, a contractor that uses accruals basis accounting will record his income as soon as the job has been done and will not wait till the final bill to be settled to record it as income. Same happens with expenses. Accruals basis accounting is approved by the Generally Accepted Accounting Principles (GAAP), which are used in the US as standards and principles used to produce accurate financial statements. Accruals method offers a clear overview of the income and expenses that are to be accounted for during a period. Since payables and receivables are accounted for, this offers a longer term view of the business. Accruals basis accounting is more complex than cash basis accounting, and it may be difficult for a smaller firm to maintain their accounts based on accruals basis.
What is the difference between Cash and Accrual Basis Accounting?
Accruals basis and cash basis are accounting methodologies used to record and report a company’s transactions. The major difference between the two is in the timing of the revenues and expenses are recognized. According to the cash basis, revenue is recognized only when the money is received and expenses are recognized only when the cash is paid. Accruals basis, on the other hand, records transactions as they are incurred. Revenues are recorded as soon as the business is made aware of a receivable and expenses are recorded as soon as the business is made aware of payables.
Summary:
Cash vs Accrual
• There are two methods used in accounting to record income and expenses which are known as cash basis accounting and accruals basis accounting.
• Cash basis accounting recognizes revenues and expenses at the time that the funds are being received or paid out.
• Accruals basis in accounting will recognize revenues and expenses when they are earned and incurred.