As a small business owner, maintaining an accurate set of books is critical if you want to keep your business profitable and healthy. Every well-maintained set of books relies on one of two primary accounting methods: cash basis accounting and accrual basis accounting. Having a general working knowledge of both of these methods is recommended so that you can practice good bookkeeping habits for your business, even if you don’t perform your own financial reporting.
Cash Basis Accounting
The cash basis method only records expenses and revenues for which you have received actual cash payments. As a result, this method does not include your accounts receivable and accounts payable. This basis makes things simpler since you deal with customers based on when and how cash is transferred for your goods or services.
Accrual Basis Accounting
The accrual method helps record earned expenses and revenue items (such as an invoice), even though you may not have spent or received the cash for those items yet. It represents what your books would look like if you had already settled all your obligations (accounts payables), and received all your cash collectibles (accounts receivables). This basis helps managing and tracking finances easier as it provides a more complete picture of your financial position, and even though this may create irregularities in cash flow.
What method should you pick?
This depends on the nature of your business (whether it is seasonal, how frequently your customers settle their payments, how often you pay your suppliers, etc.). According to a 2018 survey of 300 small businesses, 67% keep track of their finances with the accrual method. However, businesses with less than ten employees tend to use the cash basis method.
Typically, we see clients use a combination of cash basis and accrual methods, which works well for small businesses to clarify finances and manage cash. Make sure you select the method that best suits your business's needs.
Schedule a meeting
At Arria CPA, we frequently work with our clients to help them determine which basis of accounting would best suit their business. As part of the Compilation Financial Statements package, we schedule a year-end review meeting to help you understand how your selected method impacts the annual bottom line of your business, while offering you the opportunity to ask questions and clarify any confusing items.
Contact us for a free, no-obligation consultation to learn more about how Arria CPA can help you decide between the cash basis and accrual methods of accounting.
Disclaimer: Please note that this is only a brief summary and is based on current accounting regulations and tax law interpretations. Accounting regulations and tax laws are subject to continual review and change, so should the facts provided to us be inaccurate or incomplete, or should the law or its interpretation change, our summary may be inappropriate for your uses. This article is written for educational purposes only, and as such, we recommend you consult a professional before making an accounting or tax decision. If you have any concerns, or would like further consultation regarding this matter, please contact us.
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