Cash vs Accrual Accounting: What’s the Difference and Why it Matters for Small Businesses
As a small business owner in Australia, understanding the basics of accounting is essential for making informed financial decisions. At Business Angels, we often hear from clients who feel overwhelmed by bookkeeping jargon, and one of the most common questions we get is: “What is the difference between cash and accrual accounting?”
This choice can have a significant impact on your business, so let’s break it down in simple terms.
What is Bookkeeping?
Bookkeeping is the process of recording all the financial transactions that happen in your business. It helps you keep track of your income, expenses, and other financial activities.
But how and when you record these transactions depends on whether you use cash accounting or accrual accounting reporting method.
Cash Accounting Method
Reporting using a cash accounting method is straightforward and commonly used by small businesses, especially those with simpler operations. In this system, transactions are reported only when cash physically changes hands.
For example:
- You receive payment from a customer, and you report that sale when the money hits your bank account.
- You pay a supplier, and you report the expense only when the payment is made.
This method is easy to understand because it closely follows your cash flow. If there’s no money coming in or going out, there’s nothing to report.
Advantages of Cash Accounting: Great for reporting tax obligations
- Simplicity: It’s easier to manage because you’re tracking only actual cash movement.
- Tax benefits: With cash accounting, you only pay taxes on the income you’ve actually received, so you should always be able to put the GST or tax aside from your sales and be able to pay your tax when it falls due.
Drawbacks of Cash Accounting: Too limited for financial reporting
- Incomplete financial reports: Since transactions are only recorded when cash is exchanged, it might not give you a complete view of your business’s performance. For instance, you might have a large number of unpaid invoices (income you expect) that aren’t reflected in your financial reports.
Accrual Accounting Method
Accrual accounting, on the other hand, reports transactions when they happen, regardless of whether cash has been received or paid.
For example:
- You invoice a customer for a sale, and you report that income even if the customer hasn’t paid yet.
- You receive a bill from a supplier, and you report the expense even if you haven’t made the payment.
Accrual accounting gives you a more accurate representation of your financial position because it reflects all income and expenses, not just the money that’s actually changed hands.
Advantages of Accrual Accounting: Full and complete financial reports
- A clearer financial picture: It provides a more comprehensive view of your business’s performance by reporting all revenues and expenses when they are incurred.
- Required for larger businesses: If your business grows, accrual accounting becomes necessary once you hit certain thresholds in Australia (e.g., exceeding $10 million in annual turnover).
Drawbacks of Accrual Accounting: Paying Tax on income you have not yet received
- Because you report all on transactions in that date period whether you have been paid for them or not, you can owe tax on invoices you have not yet been paid for. So your cash flow needs to be managed closely.
- Cash flow challenges: You might show profits on paper but face cash flow
problems if you have unpaid invoices.
Which Method is Right for You?
For many small businesses in Australia, cash accounting works well because it’s simpler and gives a clear idea of how much cash you have on hand. However, accrual accounting can offer deeper insights into your business’s overall health, particularly as it grows.
We find for most small businesses that reporting their BAS and Tax obligations on a CASH BASIS is beneficial, and then preparing the financial reports on an ACCRUAL BASIS helpful.
At Business Angels, we understand that each business is unique. Whether you need help deciding between cash or accrual accounting or managing your day-to-day bookkeeping, our team of expert bookkeepers is here to guide you every step of the way.
Cash vs Accrual Accounting: What’s the Difference and Why it Matters for Small Businesses
As a small business owner in Australia, understanding the basics of accounting is essential for making informed financial decisions. At Business Angels, we often hear from clients who feel overwhelmed by bookkeeping jargon, and one of the most common questions we get is: "What is the difference between cash and accrual accounting?"
This choice can have a significant impact on your business, so let’s break it down in simple terms.
What is Bookkeeping?
Bookkeeping is the process of recording all the financial transactions that happen in your business. It helps you keep track of your income, expenses, and other financial activities.
But how and when you record these transactions depends on whether you use cash accounting or accrual accounting reporting method.
Cash Accounting Method
Reporting using a cash accounting method is straightforward and commonly used by small businesses, especially those with simpler operations. In this system, transactions are reported only when cash physically changes hands.
For example:
You receive payment from a customer, and you report that sale when the money hits your bank account.
You pay a supplier, and you report the expense only when the payment is made.
This method is easy to understand because it closely follows your cash flow. If there’s no money coming in or going out, there’s nothing to report.
Advantages of Cash Accounting: Great for reporting tax obligations
Simplicity: It’s easier to manage because you’re tracking only actual cash movement.
Tax benefits: With cash accounting, you only pay taxes on the income you’ve actually received, so you should always be able to put the GST or tax aside from your sales and be able to pay your tax when it falls due.
Drawbacks of Cash Accounting: Too limited for financial reporting
Incomplete financial reports: Since transactions are only recorded when cash is exchanged, it might not give you a complete view of your business’s performance. For instance, you might have a large number of unpaid invoices (income you expect) that aren’t reflected in your financial reports.
Accrual Accounting Method
Accrual accounting, on the other hand, reports transactions when they happen, regardless of whether cash has been received or paid.
For example:
You invoice a customer for a sale, and you report that income even if the customer hasn’t paid yet.
You receive a bill from a supplier, and you report the expense even if you haven’t made the payment.
Accrual accounting gives you a more accurate representation of your financial position because it reflects all income and expenses, not just the money that’s actually changed hands.
Advantages of Accrual Accounting: Full and complete financial reports
A clearer financial picture: It provides a more comprehensive view of your business’s performance by reporting all revenues and expenses when they are incurred.
Required for larger businesses: If your business grows, accrual accounting becomes necessary once you hit certain thresholds in Australia (e.g., exceeding $10 million in annual turnover).
Drawbacks of Accrual Accounting: Paying Tax on income you have not yet received
Because you report all on transactions in that date period whether you have been paid for them or not, you can owe tax on invoices you have not yet been paid for. So your cashflow needs to be managed closely.
Cash flow challenges: You might show profits on paper but face cash flow problems if you have unpaid invoices.
You receive payment from a customer, and you report that sale when the money hits your bank account.
You pay a supplier, and you report the expense only when the payment is made.
Simplicity: It’s easier to manage because you’re tracking only actual cash movement.
Tax benefits: With cash accounting, you only pay taxes on the income you’ve actually received, so you should always be able to put the GST or tax aside from your sales and be able to pay your tax when it falls due.
Incomplete financial reports: Since transactions are only recorded when cash is exchanged, it might not give you a complete view of your business’s performance. For instance, you might have a large number of unpaid invoices (income you expect) that aren’t reflected in your financial reports.
You invoice a customer for a sale, and you report that income even if the customer hasn’t paid yet.
You receive a bill from a supplier, and you report the expense even if you haven’t made the payment.
A clearer financial picture: It provides a more comprehensive view of your business’s performance by reporting all revenues and expenses when they are incurred.
Required for larger businesses: If your business grows, accrual accounting becomes necessary once you hit certain thresholds in Australia (e.g., exceeding $10 million in annual turnover).
Because you report all on transactions in that date period whether you have been paid for them or not, you can owe tax on invoices you have not yet been paid for. So your cashflow needs to be managed closely.
Cash flow challenges: You might show profits on paper but face cash flow problems if you have unpaid invoices.
