Cash or Accrual Basis Accounting Method?

Cash or Accrual Basis Accounting Methods: There are basically just two accounting methods of keeping track of your businesses income and expenses available to most small business: cash or accrual.

Boiled down....the only difference between these two accounting methods is the timing of when your transactions (sales and purchases) are debited or credited to your accounts.

Cash Method:
Many small businesses that do not have to keep track of inventory ...use the cash method. Under the cash method, you do not record your income until cash (or check) is actually received from your customer or affiliate and expenses are not recorded until you actually pay for them.

For example, you own a heating and air business and you repaired a heating system in December, but didn’t actually receive any money from your customer till sometime in January...that sale would not be recorded on that year’s books even though you finished the job in December...it would be recorded in the next year’s books when you actually received a check from that customer.

Accrual Method:
Under the accrual basis accounting method, income is counted and recorded when the sale occurs and expenses are recorded when you receive the goods or services.

Accrual basis accounting is more widely used among “bigger” small businesses...especially those with inventory and those who extend credit to their customers.

It gives them a better picture of how their business is actually doing.

For example, your business finishes a service job in December, and doesn’t get paid until February of the next year, under the accrual basis accounting method you would record the sales amount n December....a more accurate picture of your financial situation. Since you don’t have the money yet, the amount would be recorded as account receivable.

Also if you order some merchandise to sell in your store, under the accrual basis accounting method you would record the merchandise as inventory when it arrives and if you pay for it a month later, it is accounts payable until you pay for it. It does not become cost of goods until you sell the merchandise...before the sale it is still considered inventory.

Above I stated that most of the time you are free to choose which accounting method you want to use; however, there are a couple of exceptions.

You must use the accrual basis accounting method if:

• You has sales of more than $5 million per year, or
• You stock an inventory of items you sell to the public and your gross receipts are over $1 million per year.

Also...please be aware that if you have already filed your business’s first year tax return...you must continue to use the accounting method you chose on that first return consistently from year to year.

If you later decide you want to change your accounting method, you will need the IRS’s approval. You request approval by filing a Form 3115, Application for Change in Accounting Method. You will need to have sufficient justification and documentation to support the change you are requesting.

Basic Church Accounting ebook details basic accounting for churches and has samples of financial statements for churches.

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