Cash Versus Accrual Accounting
When you’re setting up your books, one of the first decisions you’ll face is how to record income and expenses:
Do you use cash accounting or accrual accounting? This choice impacts how you view your business finances, when you pay taxes, and how you make decisions. Let’s break it down.
What Is Cash Accounting?
Cash accounting is the simpler of the two methods. You record income when you receive it, and record expenses when you pay them.
Example:
You send an invoice on June 5 but get paid on June 20. Under cash accounting, that income is recorded on June 20 when the money actually hits your account.
Pros:
Easier to manage
Reflects actual cash on hand
Ideal for small, service-based businesses
Cons:
Doesn’t show income or expenses that are owed
Can give an inaccurate picture of your business health
What Is Accrual Accounting?
Accrual accounting records income and expenses when they’re earned or incurred, not when money moves.
Example:
Using the same invoice, you’d record income on June 5, the date of the invoice, even if payment comes later.
Pros:
Provides a more accurate long-term picture
Matches income with related expenses
Required if your business earns over $25 million/year (per IRS rules)
Cons:
More complex
Requires tracking receivables and payables
Might not match your actual bank balance
Key Differences at a Glance
| Cash Accounting | Accrual Accounting | |
|---|---|---|
| When Income is Recorded | When you receive payment | When it’s earned (invoiced) |
| When Expenses are Recorded | When you pay the bill | When the bill is incurred |
| Bank Balance Match | Matches closely | May not match |
| Best For | Small service businesses, freelancers | Product-based or growing businesses |
| IRS Requirement | Optional for most small businesses | Required if revenue > $25M/year |
Real-World Example: Side-by-Side
Let’s say you invoice $5,000 in December but get paid in January.
Cash accounting: Income is recorded in January
Accrual accounting: Income is recorded in December
This impacts your tax year, financial reports, and decision making.
So Which Method Is Right for You?
Choosing the right method affects everything from tax prep to cash flow forecasting. If you’re not sure what’s best, don’t wing it.
We offer free bookkeeping estimates.
We’ll help you set up the right system from day one.
No pressure, just clear guidance.