Question

what are the pros and cons of cash accounting?of accrual accounting

Answer 1

Cash accounting means- The cash accounting is a method of recording accounting transactions for revenue and expenses only when the corresponding cash is received or payments are made. Thus, you record revenue only when a customer pays for a billed product or service, and you record a payable only when it is paid by the company.

Pros and Cons of cash accounting are as follows:

PROS

1. Easy to understand

2. Shows cash flow

3. Single entry system

1. Easy to understand- Cash basis accounting tends to be simpler to understand than other accounting methods. If you choose to implement the cash method for your small business, it may not be necessary to seek the help of a professional accountant.

2. Shows cash flow- The cash method most resembles a cash flow statement. It provides an accurate picture of how much cash your business actually has on-hand.

3. Single entry system- The cash method can be done with a simple single-entry system, so a complex accounting program is not always necessary.

CONS

1. Single entry system

2. Short term indicator

1. Single entry system- While the simplicity of the single-entry system needed for the cash method is an advantage, it is also a disadvantage. The accrual method necessitates the use of a double-entry system, which is based on accounting equations. This system provides far greater control of transaction posting, and reduces the chance of errors.

2. Short term indicator- While it does indicate the cash flow of a business, it may offer a misleading picture of longer-term profitability. The cash method doesn’t show income that has been invoiced but not received. Furthermore, it doesn’t take future expenses into account. It can also be misleading. For example, your books might show one month as being extremely profitable. However, deeper insight may reveal that sales were actually slow, but a number of customers paid their outstanding bills.

Accrual accounting means- Accounting method under which revenues are recognised on the income statement when they are earned( rather than when the cash is received) and expenses are reported when the expense occurs, not when the cash is paid.

PROS

1. Grants more useful business analysis- The matching of expense and revenue using this method allows you to conduct more useful business analysis.

2. Allows for easy planning- One process that will become easier with accrual basis accounting is planning, especially that it allows you to account for all of your expense and revenue within the right period. This entails that you will be able to create budgets for your expenses and predict sales, which is essential to inventories, staffing and other areas of operation. Aside from easier planning, this accounting method can help with reducing your tax burden by issuing invoices at the start and end of the year.

3. compliant with GAAP- With expenses and revenue matched, accrual accounting allows for financial statements that are unaffected by cash timing in business negotiations. Basically, this will make periodic financial statements to become more representative of your business’s health, rather than what the checkbook shows. While not all small business are required to be compliant with GAAP, they will be in the future if they plan to expand to outside investors.

CONS

1. Poses some difficulties- Difficulty is one huge drawback of accrual basis accounting, where rules in the recognition of revenue and expenses can be very complicated. Now, if you want to fully and record transactions in your small business in accordance with GAAP, you should seek the help of an accountant.

2. Can lead to deception- It is important to note that the confusion coming with this accounting practice can lead people to deception of financial statements. For example, some businesses have misused the method to hide weaknesses and mistakes within their financial reports. Simply put, it can be used to hide fraud.

3. Difficult to switch costs- If you have started with another method of accounting, it can be difficult to switch to the accrual basis. This is because you might already be having difficulties with cash-flow at the start, which is why most start-ups go for cash basis accounting.