Cash vs Accrual Accounting - Which Should You Choose for Your Business?

There are two methods of accounting you may use for your business - cash basis and the accrual method.

The difference lies in if you recognize revenue and expenses when they are received/paid or earned/incurred.

With cash basis, the approach is pretty simple. You record income when cash is actually received and expenses when they are actually paid. For example, let’s say you own a landscaping company and complete a project on June 25. You give your customer an invoice that day and they pay it on July 2. You would record this transaction on July’s books. Easy peasy!

Cash basis is used by many small businesses because of its simplicity and insight into the actual cash flow. It is limited in that it does not track accounts receivable or accounts payable, and therefore cannot give a true representation of business activity over longer periods of time.

With the accrual method, you record income when it is earned and expenses when they are incurred. Let’s use our previous example of the landscaping business. You complete a project on June 25 and the customer pays you on July 2.
- Using the accrual method, you would record the revenue on June’s books, because that’s when the revenue was actually earned.
- Since you haven’t received the cash yet, you would record the asset as a ⬆️ debit/increase to accounts receivable.
- The next month when cash is received, you would need to make a second entry to ⬇️ credit/decrease accounts receivable and ⬆️ debit/increase cash.

The accrual method is useful for its holistic view of a business’s financial position. Being able to see what revenue and expenses you have makes your financial statements more accurate. You need to be mindful of your cash flow with this method, since revenue does not equal available cash. It is also not as simple to manage as cash basis, which may be unappealing to some business owners.

While there are some criteria that necessitate a business use the accrual method, it is largely up to the discretion of the business owner. It is also important to note that the method you choose DOES have tax implications, so make sure to discuss with your tax preparer and your bookkeeper so you know what to expect when tax time comes around.