Question

Understanding the difference between cash accounting and accrual accounting is critical to becoming a good accountant. What is the difference between cash and accrual methods of accounting? Which type of statements do you think provide more useful information and why-- accrual-basis financial statements or cash-basis statements? Can you explain to a non accounting person, Thank you!

Answer 1

There are majorly two methods of accounting i.e. Cash System of Accounting and Accrual System of Accounting.

Under the Cash Accounting, All transactions are recorded when actual cash comes in the organisation or goes out. It is a cash based accounting, For Example, sales will be recorded only when the payment is received i.e. credit sales will not be recorded in the books, and will be recorded only when the payment is received. Similarly, all expenses incurred by the organisation will be recorded only when actual paymnets are made in cash.

Under Accrual system of accounting, the transactions are recorded in the period to which they actually relate to. Transactions are recordec when right to receive cash or obligation of payment arise. For example credit sales will be recorded as and when made, salaries payable will be recorded as and when the liability to pay them arise.

I think Accrual statements provide more useful information since it relates to a period and the performance of a particular period can be easily analysed using accrual system of accounting. Cash Accounting can provide misleading results, since it does not show true position of business.