M2A1: Cash Method Versus Accrual Method Discussion

M2A1_EnriquezKeno

Keno Enriquez posted Feb 17, 2018 5:41 PM

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The main difference between accrual and cash basis accounting lies in the timing of when revenue and expenses are recognized. The cash method accounts for revenue only when the money is received and for expenses only when the money is paid out. On the other hand, the accrual method accounts for revenue when it is earned and expenses goods and services when they are incurred. The revenue is recorded even if cash has not been received or if expenses have been incurred but no cash has been paid. Accrual accounting is the most common method used by businesses.

Certain businesses are required to use the accrual method, but you’d be surprised how many businesses are eligible for the cash method. If you have the option to use either accounting method, it pays to consider whether switching methods would lower your tax bill. This would be one of the factors whether a company would go for cash or accrual method. Another factor is Tax-planning flexibility. Cash method offers greater flexibility to control the timing of income and deductions. For example, it allows you to defer income to next year by delaying invoices or to shift deductions into this year by accelerating the payment of expenses. An accrual-basis business doesn’t enjoy this flexibility. For example, to defer income, delaying invoices wouldn’t be enough; the business would have to put off shipping products or performing services.

If you sell $5,000 worth of machinery, under the cash method, that amount is not recorded in the books until the customer hands you the money or you receive the check. Under the accrual method, the $5000 is recorded as revenue immediately when the sale is made, even if you receive the money a few days or weeks later. The same thing occurs for expenses. If you get an electric bill for $1700, under the cash method, the amount is not added to the books until you actually pay the bill. However, under the accrual method, the $1700 is recorded as an expense the day you get the bill.

Reference:

Morah, C. (2017). How does accrual accounting differ from cash basis accounting? Retrieved from https://www.investopedia.com/ask/answers/09/accrual-accounting.asp

M2A1

Loranda Williams posted Feb 16, 2018 2:57 PM

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The Accrual Method- is when income is recognized when it is earned regardless of when the payment is received. This method is more complex, yet it identifies the accurate income of a company with less vulnerable to manipulation of the business.

The Cash Method-is when the company receives the payment of a purchase from the customer. Because of the ease of this method, it may be easy for a business to manipulate the taxable income for the year.

Since it appears that there are many opportunities for manipulation many companies are required to use the accrual method of accounting for income tax purposes.

An example of an Accrual Method is: If a person purchases a motorcycle during December but the funds aren’t received until January the company must recognize the sale that it earned during December.

An example of a Cash Method is: If a person purchases a motorcycle during December but the funds aren’t paid until January the company recognizes the earned income when they receive the cash for the purchase.

Reference:

My Class Online, Accounting-Accrual Method, (n.d.), Retrieved fromhttps://myclasses.argosy.edu/d2l/le/content/17859/viewContent/737990/View

My Class Online, Accounting-Cash Method, (n.d.), Retrieved fromhttps://myclasses.argosy.edu/d2l/le/content/17859/viewContent/737989/View