The accounting method is one of the top concepts every business owner must understand. The accounting method is the set of rules in reporting revenues and expenses. Accrual and cash basis are the two main accounting methods. The cash method reports generated when income received and expenses when paid. Meanwhile, the accrual method reports income when earned and expenses when incurred, regardless of when cash was received or paid.
The cash accounting method simplifies tracking inflows and outflows, especially in small businesses where cash flow is restricted. The method also shortens the taxation process.
However, the cash method provides an inaccurate picture of the company’s financials. For example, it could lead the owners to believe that there was a high cash flow for the month when most of them were really a result of the previous month’s efforts.
On the other hand, accrual accounting is the recommended method in the Generally Accepted Accounting Principles (GAAP) as it provides a clearer image of the company’s overall finances. It gives owners a realistic report of income and expenses in a certain period. And it presents the income and expenses paid in cash and credit, giving insight into customer and company habits.
Another advantage of using the accrual method is that companies can easily apply it when using small business accounting software. Even with very minimal accounting knowledge, the best accounting software for small business will support entrepreneurs in producing accrual-based financial reports.
Moreover, while accrual accounting is the method recommended in the standards, small businesses owners still have the final say on this decision. Some considerations they must evaluate are the business goals, resources, and financial requirements.
If still unsure of which accounting method to use in your small business, consulting with accountants is the best recourse. KIPPIN is a firm that provides accounting, bookkeeping, payroll, and tax services to small businesses. Contact KIPPIN today for accounting tips and professional guidance on finance-related tasks.