A detail discussion about cash basis accounting and accrual basis accounting, which is the superior and difference between cash basis and accrual basis accounting are given as follows:
What is cash basis of accounting
Cash basis of accounting is the system of recording financial transactions on the basis of cash received and paid. In this basis, the business transactions are recorded only for cash received and cash paid.
So, cash basis of accounting is the accounting basis in which revenue is recorded when cash is received and an expense is recorded when cash is paid.
- Performed service revenue of $ 1000 on an account. Under cash basis accounting this transaction should not be recorded, because cash is not received.
- Paid salary of $ 1000 for the employees. Under cash basis accounting this transaction should be recorded because cash is paid.
What is accrual basis of accounting
Accrual basis of accounting is the system of recording financial transactions on the basis of events occurred. In this basis, the business transactions are recorded when the events change a company’s financial position.
So, accrual basis of accounting is the accounting basis in which transactions that change a company’s financial statements are recorded in the periods in which the events occur.
(1) Performed service revenue of $ 1000 on an account. Under accrual basis accounting this transaction should be recorded, because the company earned service revenue and achieved accounts receivable.
(2) Paid salary of $ 1000 for the employees. Under account basis accounting this transaction should be recorded, because cash payment changes company’s financial position.
The superiority of accrual basic accounting or cash basis accounting
Most of the transaction today take place on the credit basis that why most business enterprises follow accrual basis of accounting there is the certain advantage of accrual basis of accounting in comparison with cash basis of accounting as follow:
- Cash basis of accounting is not in compliance with generally accepted accounting principles it is not consistent with the revenue recognition principle matching principle and accounting periodicity concept on the contrary accrual basis follows GAAP.
- The cash basis of accounting very often gives us a misleading picture of the financial results. As it fails to record those revenues in the period for which cash is not received and those expenses for which cash is not paid. The problem does not exist in the case of an accrual basis of accounting.
Finally, justifying all sides of the two methods we can say that the accrual basis of accounting is much better than that of the cash basis of accounting.
In an organization, the accountant follows either the cash basis or accrual basis of accounting for completing accounting activities. But between these two methods, there is some basic difference existed the distinction between them is depicted below:
- Accrual basis accounting is an accounting basis in which companies record transaction that changes a company financial statement in the period in which the events occur.
On the other hand, cash basis accounting is an accounting basis in which companies record revenue when they receive cash and an expense when they pay cash.
- Follow: accrual basis accounting follow generally accepted accounting principles but cash basis accounting does not follow generally accepted accounting principle.
- Transaction: accrual basis accounting record both the cash and credit transactions whereas cash basis accounting record only cash transaction.
- Types: medium and large company use accrual basis accounting but individuals and some small companies use cash basis accounting.
- Limitation: accrual basis accounting completely Presents Company overall financial changes over the period.
Whereas cash basis accounting does not present company overall financial changes over a specific period.
Difference between cash basis and accrual basis accounting
Basic distinctions between cash basis of accounting accrual basis of accounting are given below:
|Topic||Cash Basis of Accounting||Accrual Basis of Accounting|
|Transactions||It records only cash transactions.||It records both cash and credit transactions.|
|Standard||It does not follow international accounting standard||It follows international accounting standard.|
|Uses||It is rarely used.||It is widely used.|
|Cash Flows||It ensures the company’s total cash flows.||It ensures the company’s both cash flows and accrual flows.|
|Limitation||It does not present company overall financial changes over a specific period.||It completely presents the company overall financial changes over a specific period.|
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