A:

The main difference between accrual and cash basis accounting lies in the timing of when revenue and expenses are recognized. The cash method is mostly used by small businesses and for personal finances. 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.

For example: Let's say you own a business that sells machinery. 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.

Learn more about Financial Statements in our article, What You Need to Know About Financial Statements.

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