Question

Why the "accrual basis of accounting"?

There are many differences in the accounting standards (GAAP) of different countries, but GAAP in virtually all countries requires the use of the accrual basis of accounting. Why do you think that the accrual basis of accounting is required by all countries' GAAP, and why does now country's GAAP allow the cash basis of accounting?

Answer 1

GAAP prefers the accrual accounting method because it records sales at the time they occur, which provides a clearer insight into a company's performance and actual sales trends as opposed to just when payment is received.

Under cash basis accounting, revenue and expenses are recorded when cash is actually paid or received.In other words, under accrual accounting revenue and expenses are recognized regardless of when payment is actually made or received.In general, most businesses use accrual accounting, while individuals and small businesses use the cash method. The IRS states that qualifying small business taxpayers can choose either method, but they must stick with the chosen method.Cash basis accounting is an accounting system that recognizes revenues and expenses only when cash is exchanged. Cash basis accounting is not acceptable under the generally Acceptable Accounting Principles (GAAP) or the International Financial Reporting Standards (IFRS).

Most small businesses use cash-basis accounting. It's simpler, and it mimics the way people handle their personal finances. But as a business grows, it often becomes necessary to switch to accrual-basis accounting. Potential investors, lenders and government agencies often expect to see financial statements prepared with accrual accounting. Generally accepted accounting principles, or GAAP, require accrual accounting because it presents a more accurate picture of a company's financial condition.