Author comments: I have expressed about an ‘Accrual basis accounting and cash basis accounting’ method and the difference between these methods through a short, essay plain approach in one of my articles “Wahid’s guess” I believe the learners would have understand about both of accounting method,
Now, in this article I have presented that which accounting method is better for an organization accounting structure, Again I have explained the meaning of two methods and others important elements for comprehend an students and readers so as to below
Introduction: In cooperation Accrual and Cash are methods are approved by generally accepted accounting principles (GAAP) for small business. Only the Accrual method is acceptable for large businesses. For the reason that of Social Security Administration’s (SSA) dealing of income from self-employment, one method may be beneficial over the other, during this article I have mentioned which accounting method is better for an organization accounting structure
Meaning Accrual basis Accounting:
It is a method of accounting in which transaction are entered in the books of accounts, In accrual basis accounting, income is reported in the financial period it is earned, anyway when it is received, and expenses are deducted in the financial period they are incurred, In the Accrual method of accounting transactions are recorded when they happen rather than when the money is received or paid. This makes the accounting slightly more difficult because business are dealing with goods that have been purchased but not paid for and sales that have been made but the cash has not been collected. Business record both revenues and expenses when they occur. For that reason, the focus is on the recording of flow of resources like labour, goods, services and capital. The related cash flow may take place after some time or it may or may not take place in the same accounting period.
Meaning Cash basis Accounting:
In the Cash method of accounting the business is run like a checkbook. When goods and services are purchased and paid for, they are recorded. When products are sold and the cash collected No consideration is given to the “due” fact of the transaction. This system of accounting is simple to understand and as such needs less skill on the part of the accountant. Its whole focus is on cash management. The recognition trigger is simply the flow of cash. Budgetary and legislative compliance is easier under this system. An example of the cash basis would be a sale of goods in January, but the money is not received from the customer until February. Under the Cash Basis of accounting, this would be considered income in February. If attendance at a trade show was planned for May but had to be paid for in March, in a cash basis accounting it would be expensed when it was paid for in March. This method of accounting.
Recompense or Advantages of the Accrual method Accounting
The method of Accrual Accounting as retaining the advantages of the Cash Accounting System overcomes its limitations or restrictions by addition of Cash Flow Statement in the Financial Statement of the entity. The major rewards are as below
I. As the accrual method shows the recede and flow of business income and debts more exactly, it may depart you in the gloomy as to what cash funds are obtainable,
II. Accrual accounting helps in the measurement of financial presentation by properly reflecting surplus/deficit as all expenses whether paid or not and all incomes whether received or not are duly accounted for.
III. Accrual accounting afford comprehensive information on expenses which helps in knowing the cost consequences of policies and enables comparison with different policies. Also, information about calculation of financial assistance can be extracted from the accounts, which helps in its validation. This ensures the adoption of best policy, which in turn assures best use of sparse resources. It also helps in determining the future sustainability of programmes
IV. Accrual method provides disclosures on account of dependent assets and dependent liabilities so that risk connected with the guarantees issued and letters of console given can be better assessed by the user of the financial statements
V. Accrual method discloses the Accounting Policies used in the groundwork of Financial Statements for better accepting and approval of the Financial Statements.
Restrictions Limitations of Accrual method accounting: this could result in serious cash flow problem. For case in point, your income ledger may show thousands of dollars in sales, although in reality your bank account is empty for the reason that your customers haven’t paid you yet.
The Restrictions or limitations of cash method accounting:
The method of cash accounting gives a wrong picture of income received, as advance tax receipts are recognized as income the major Restrictions or limitations are as below
I. It does not provide the complete picture of the financial position i.e. information on assets and liabilities are not available for fixed assets (land, building, machineries, heritage assets etc.)
II. It does not give the full information on current assets e.g. accrued income like outstanding royalty, fees, service charges, tax arrears etc. other than No information about capital work-in-progress like dams, power plants, roads and bridges etc. is available
III. It ignores certain transactions by not recording expenditure already incurred but payment not made e.g. supplies made, salary, telephone charges, overdue interest etc. and also revenue earned but cash not received e.g. license fees, services delivered (electricity, water etc.)
IV. It gives a wrong picture of income received, as advance tax receipts are recognized as income.
V. It provides room for fiscal opportunism e.g. tax revenues can be collected in excess during a particular period followed by high incidence of refunds together with interest, payments can be easily deferred and passed on to the next financial year, revenue due in the future could be compromised by providing for one time payments.
Due to the above disadvantages, it is not potential to get the real picture of the management financial performance and position.
Recompense or Advantages of the cash method accounting: the cash method provides a more exact picture of how much actual cash your business has; it may offer a confusing picture of longer-term profitability. Under the cash method, for case, firm books may show one month to be hugely profitable, when really sales have been slow and, by coincidence, a lot of credit customers paid their bills in that month. To have a firm and true thoughtful of business’s finances,
Mode of choosing an Accounting Method: When, how, why we can choose whichever accounting method from both. (Accrual cash method accounting) Most small businesses (with sales of less than $3 million per year) are free to accept either accounting method. When we must use the accrual accounting method. We must use the accrual method if: our business has sales of more than $3 million per year, or our business stocks an inventory of items that we will sell to the public and our gross receipts are over $1 million per year. Inventory includes any commodities our sell, as well as supplies that will physically become part of an item intended for sale. Either method we use, it’s important to realize that either one gives we only a partial picture of the financial status of our business
Techniques to choose which accounting method is better for organizations accounting structure
The cash method and the accrual method (sometimes called cash basis and accrual basis) are the two principal methods of keeping track of a business’s income and expenses. In most cases, we can choose which method to use. In this article I have explain. How they work and the advantages and disadvantages of each. so we can choose the better one from both accounting method for our business.
These methods are different only in the timing of when communication, including sales and purchases, are credited or debited to your accounts. Here’s how each works: the cash method. The cash method is the more normally used method of accounting in small business. Under the cash method, income is not counted until cash (or a check) is actually received, and expenses are not counted until they are actually paid.
Case in point: One of the businesses finishes a job in November, and doesn’t get paid until three months later in January. Beneath the cash method, we would record the payment in January. Beneath the accrual method, we would record the income in our November books.
The accrual method transactions are counted when the order is made, the item is delivered, or the services occur, regardless of when the money for them (receivables) is actually received or paid. In additional income is counted when the sale occurs, and expenses are counted when we receive the goods or services. We don’t have to wait until you see the money, or actually pay money out of our checking account, to record a transaction.
Another case in point: We purchase a new computer on credit in October and pay $5,000 for it in December, two months later. Using the cash method, we would record a $5,000 payment for the month of December, the month when the money is actually paid. Under the accrual method, we would record the $5,000 payment in October, when we take the computer and become obligated to pay for it.
Why Accrual Accounting vital?
The extent of economic events that occur over a period of time has become more and more complex in the 21st century. There is now a common shove near accrual accounting as a technique of growing the international comparability of national economic accounting standards.
For this reasons of equally government and corporate decision-making strategy as well as fundamental analysis, it is important to calculate economic trial in the time period when they essentially occur as opposed to the period when monetary dealings are made. In some cases, payments under government social programs, such as Medicaid grants, are dependent on formulas attached to personal income; inaccurate revenue inference may lead to beneath- or overpayment of curriculum settlement. Further commonly, accrual dimension of economic series is significant for the accurate estimate of economic trends over time.
Conclusion: The best represents the authentic condition (in other words the “true and fair” view) should be used. If proceeds from tax is not calculable and is vague or complicated to understand, then the accurate standard would be to identify such income on cash basis. The accrual-based system that basically follows the ethics of conservatism and measurability requires that we “expected no gains, but afford for losses”. In the background of government accounting, recognizing expenditure on accrual basis meets the criteria of conservatism, measurability and achievability
