Small-Business Bookkeeping Basics: Accrual vs. Cash Basis Accounting

Small-Business Bookkeeping Basics: Accrual vs. Cash Basis Accounting

A key decision in small-business bookkeeping is whether to use accrual or cash basis accounting. The difference between these is in the timing of recognition of revenue and expenses. The cash method recognizes revenue and expenses immediately while the accrual method focuses on anticipated revenue and expenses.

Using the cash method, revenue recognition on the income statement only occurs when receiving cash. Similarly, expense recognition only occurs when paying out cash.

Picture of a calculator on accounting ledgers to illustration Small-Business Bookkeeping Basics: Accrual vs. Cash Basis Accounting

In contrast, the accrual method uses accounts receivable, and revenue is recorded when it is earned. This usually happens before any money changes hands. When delivering a product or service to a customer, revenue recognition takes place with the expectation of future payment. Accounts payable is used to record expenses in lieu of future payments.

Pros and Cons

The main advantage of the cash method for small-business bookkeeping is its simplicity. Tracking cash flow is easy because it focuses solely on cash received or paid.

The disadvantage of the cash method is that the amount of cash on the books bears little resemblance to how the business is actually performing. This is because there is no tracking of accounts receivable and payable. For example, a cash-rich company may have large sums of accounts payable. These accounts could far exceed the cash on the books and the company’s current revenue stream. This company might look like it is profitable when in fact it is losing money.

The main advantage of the accrual method is that it gives a more accurate picture of the financial health of a company. This is because is uses accounts receivable and payable. Accounts receivable records all revenues when earned and accounts payable records all expenses when incurred.

The disadvantage of the accrual method is that it is more complicated to implement.

Small-Business Bookkeeping Recommendation

In small-business bookkeeping, if a business owner really wants to understand how their business is performing, they must use the accrual method. The accrual method smooths out earnings over time and accounts for generated revenues and expenses immediately. The cash method recognizes earnings intermittently.

If you would like to talk about accrual or cash basis accounting, or if you have general questions about bookkeeping, please call 262-563-9266 or email info@BookkeepingByMike.com.

About the Author Mike Westmore

I have been blessed with the analytical mind of a scientist, growing up influenced by my father who was a scientist and my brother who is an engineer. After spending 20 years running my own scientific consulting business, and applying my analytical skills to both the science and the necessary bookkeeping duties required to organize my business, I have decided to apply these bookkeeping skills to the benefit of other small business owners. If you own a small business, my mission is to help you take control of your finances through sound analysis and advice, allowing you to achieve prosperity.

Geographic Bookkeeping Service Area of Bookkeeping By Mike LLC

Serving the business bookkeeping needs of businesses in these Waukesha County communities:

Bethesda, Big Bend, Brookfield, Brookfield, Buena Vista, Butler, Camp Whitcomb, Chenequa, Colgate, Delafield, Dousman, Eagle, Eagleville, Elm Grove, Genesee, Genesee Depot, Goerke's Corners, Guthrie, Hartland, Jericho, Lac La Belle (partly in Jefferson County), Lake Five, Lannon, Lisbon, Mapleton, Menomonee Falls, Merton, Milwaukee, Monches, Monterey, Mukwonago, Mukwonago (partly in Walworth County), Muskego, Nashotah, New Berlin, North Lake, North Prairie, Oconomowoc, Oconomowoc Lake, Okauchee Lake, Ottawa, Pewaukee, Saylesville, Stone Bank, Summit, Summit Center, Summit Corners, Sussex, Vernon, Wales, Waukesha, Waukesha (county seat). If we're an exceptionally good fit, also serving clients in Jefferson, Milwaukee, Walworth, and Washington Counties.

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