Guide to Cash or Accrual Accounting

How to decide which accounting method best fits your needs
By Kay Bell

Cash-based accounting recognizes income when the money is received. Accrual-based accounting recognizes income when goods are shipped or services rendered. For expenses, under the cash method, an expense is recognized when you pay it. Under the accrual method, the cost is recognized when your company is obligated to pay it.

For accounting purposes, most businesses opt for the accrual method. Cash-based accounting can distort the true operations of your business and incorrectly reflect income. The choice generally is yours, although in certain circumstances the IRS requires companies to use the accrual method. And some businesses decide to use a hybrid of the two.

In determining which accounting system to use for your business, you should:

1.                           Understand the requirements of each method

2.                           Examine accounting software

3.                           Consider hiring a professional bookkeeper

Action Steps

The best contacts and resources to help you get it done

Accounting 101 Basically, the two accounting methods differ only in the timing of when transactions are credited or debited. In practice, though, accounting is rarely basic.

I recommend:  You can find good primers on the accounting methods at Nolo.com, Business Owner"s Toolkit, Inc.com and American Express. You can print out a PDF version of this guide to cash vs. accrual accounting provided by Texas A&M University to read at your leisure.

Computerize the process Unless you"re running a micro-business, you probably have your accounts on computer. But does your current software meet your accounting needs? And will it allow you to change as your business grows?

I recommend:  Top Ten Reviews looks at the pluses and minuses of, you guessed it, ten business accounting programs. The Logos accounting program also provides a side-by-side look at some factors to consider in deciding whether to use the cash or accrual method.

Hand over the books Regardless of whether you choose the accrual or cash accounting method, you"ll probably find that hiring an accountant to keep track of the numbers is a worthwhile expense.

I recommend:  Gaebler Ventures and is4profit each offer tips on how to hire a business accountant. The first recommendation is to ask for local referrals. But you also can find business accountants via the practitioner search engines at Accountants World, GoodAccountants and the National Society of Accountants.

Tips & Tactics

Helpful advice for making the most of this Guide

·                 Make sure you understand the financial and tax implications of the accounting method you choose.

·                 When considering a computer accounting solution, look for one that supports your entire company — sales, service, accounting — so that you can integrate all your financial applications.

·                 Make sure the accountant you choose is a business accountant. The needs of individuals are much different than those of a business.

·                 In that same vein, look for an accountant who knows the needs of your particular industry.