A:

The main difference between accrual and cash basis accounting is the timing of when revenue and expenses are recognized. The cash method is most 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 recieved 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.

RELATED FAQS
  1. What is the difference between accrual accounting and cash accounting?

    Understand the differences between the two basic methods of accounting commonly used by businesses: cash accounting and accrual ... Read Answer >>
  2. When are expenses and revenues counted in accrual accounting?

    Take an in-depth look at the treatment of revenues and expenses within the accrual method of accounting and learn why many ... Read Answer >>
  3. When are businesses required to use accrual accounting?

    Determine when the accrual accounting method must be used instead of cash accounting. Most businesses use accrual accounting ... Read Answer >>
  4. What is accrual accounting used for in finance?

    Read about the accrual method of accounting, its uses and rules, and why it is considered so important for investors, lenders ... Read Answer >>
  5. When is accrual accounting more useful than cash accounting?

    Learn when accrual accounting is more useful than cash accounting when trying to determine a company's performance over a ... Read Answer >>
  6. When is revenue recognized under accrual accounting?

    Discover how to report revenue under the accrual method of accounting and why a firm recognizes revenue even when cash has ... Read Answer >>
Related Articles
  1. Investing

    How To Decipher Accrual Accounting

    Accrual accounting is an important method of measuring the performance and position of a company. Learn more on how its used.
  2. Markets

    Earnings Quality: Analyzing Specific Accrual Accounts

    By Tim Keefe,CFA (Contact Author | Biography)Not all accrual accounts are subject to the same management manipulation, and some accruals are worth more attention than others. Recall Figure 6 ...
  3. Markets

    Earnings Quality: Measuring Accruals

    By Tim Keefe,CFA (Contact Author | Biography)As was noted earlier, earnings management is predominantly a function of manipulating accruals, so it is intuitive to use the magnitude of accruals ...
  4. Professionals

    Accounting Methods

    Accounting Methods
  5. Professionals

    What is Cash Basis Accounting?

    Cash basis accounting recognizes revenues and expenses at the time cash is paid or received.
  6. Markets

    Earnings Quality: Defining "Good Quality"

    By Tim Keefe,CFA (Contact Author | Biography)In order to understand a company's financial report, you need to understand the accounting concepts that are used to justify the accounting rules. ...
  7. Professionals

    Financial Statement Analysis

    CFA Level 1 - Cash Vs. Accrual Accounting. Examines the differences between cash and accrual accounting. Looks at the benefits of each and how to reconcile the two methods.
  8. Markets

    Earnings Quality: Measuring The Discretionary Portion Of Accruals

    By Tim Keefe,CFA (Contact Author | Biography)Using the raw accrual amounts as a proxy for earnings management is a simple method to evaluate earnings quality because firms can have high accruals ...
  9. Professionals

    Introduction

    CFA Level 1 - Section 6: Financial Statements. Introduction to financial statements. Briefly introduces the concept of financial statement analysis and two main accounting methods.
  10. Investing

    What does Accrual Mean?

    In accrual-based accounting, transactions are recorded on the books as they occur, even if payment has not yet been received or made. Accruals represent liabilities and non-cash-based assets. ...
RELATED TERMS
  1. Modified Cash Basis

    An accounting method that combines elements of the two major ...
  2. Cash Basis

    A major accounting method that recognizes revenues and expenses ...
  3. Accrual Accounting

    Accrual accounting is an accounting method that measures the ...
  4. Accounting Method

    The method by which income and expenses are reported for taxation ...
  5. Cash Cost

    A cash basis accounting cost recognition process that classifies ...
  6. Cash Accounting

    An accounting method where receipts are recorded during the period ...

You May Also Like

Hot Definitions
  1. Cost Of Debt

    The effective rate that a company pays on its current debt. This can be measured in either before- or after-tax returns; ...
  2. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  3. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  4. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  5. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
  6. Generally Accepted Accounting Principles - GAAP

    The common set of accounting principles, standards and procedures that companies use to compile their financial statements. ...
Trading Center