Difference between Cash vs. Accrual Accounting
If you are a small business owner with a desire to know more about financial accounting, then this article will help you further your goal by discussing two common accounting methods — Cash and Accrual.
There are two methods commonly used to record business transactions: cash account and accrual accounting.
This article dives into the meaning and concept of both cash and accrual accounting.
What differentiates the cash accounting from accrual accounting?
The distinct difference between cash and accrual accounting is the recorded timing of the financial transaction. Cash accounting and accrual accounting records and recognizes income and expenses at different points of sales and purchases.
Cash Accounting
Businesses that practice cash accounting basis recognize and record income and expenditures only when they receive or make payment. Companies will only recognize the revenue once they received the cash from your customers.
For example, if Company A sells $300 worth of product to Company B in January, the income is only recognized when Company A receives the payment from Company B.
It doesn’t take into account the duration that Company B takes to clear off their debt. The only thing that matters is whether Company A receives the payment from Company B by the end of the day.
Cash accounting is usually practiced by individuals who record their purchases, sole-proprietorship businesses, and businesses that don’t hold any inventory.
Accrual Accounting
Accrual accounting recognizes any sales or purchases made in credit and debit terms. As long as businesses issue an invoice or receive bills, the income and expenses are identified and recorded.
For example, if you sell a product to your customer and you issue them a $500 invoice, which is due next month, businesses will recognize the income once they have released the invoices.
In a similar vein, if you purchase a product from your vendor, your business will still recognize the transaction as an expense, even if no payment happens.
Which accounting method is better for your business? Cash Accounting or Accrual Accounting?
In reality, most of the businesses apply accrual accounting when recording their business transactions. The accrual method is better for companies to project their financial performance despite the complexity. Besides, companies are also able to make a better prediction of the company’s future growth in the long run.
Therefore, businesses would choose to apply the accrual accounting approach when recording business transactions as it’s more realistic and practical.
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