Apr 12, 2010

Accrual or Cash Method of Accounting - Which Is Best?

There is no best accounting method. Each method has its advantages and disadvantages. The cash basis method is much simpler to use and easier to understand. You don't report income until it's actually received, so it's more advantageous than the accrual method if you're in a business in which you're paid slowly. The accrual method is more complicated than the cash basis method, but you get a truer picture of your net profits for any given time period because income earned in one period is accurately matched against the expenses for that period. So you see the ebb and flow of business income and debt. Moreover, the accrual method is more advantageous than the cash basis method if you are paid promptly by your clients because you are allowed to deduct expenses when you incur them, not when you actually pay for them.

When you are paid promptly, the cash method's actual receipt rule is not important; and, using the accrual method, you may prepay business expenses in advance to offset the income you received for the year -- something you can't do with the cash method. Any business can choose to use the accrual method but some businesses (mostly larger-sized ones) are required to use it. For more information, see Deduct It! Lower Your Small Business Taxes, by Stephen Fishman.