Cash vs accrual accounting for small businesses
The two methods record the same money at different times. Cash accounting follows money in and out of the bank. Accrual accounting follows when you earn income and when you take on costs.
The difference in one example
In March you deliver an order and invoice the customer $5,000, and a $1,200 supplier bill for that month arrives. Both are paid in April.
| Cash method | Accrual method | |
|---|---|---|
| March income | $0 | $5,000 |
| March expenses | $0 | $1,200 |
| March profit | $0 | $3,800 |
| April profit | $3,800 | $0 |
Over the two months the total is the same $3,800. Accrual shows it in the month the work happened, which is why it gives a truer picture of how each month went.
Side by side
| Cash | Accrual | |
|---|---|---|
| Income recorded | When money arrives | When it's earned (usually when invoiced) |
| Expenses recorded | When you pay | When you incur them (usually when billed) |
| Tracks receivables and payables | No | Yes |
| Effort | Lower | Higher, needs invoices and bills recorded |
| Shows true monthly profit | Not reliably | Yes |
| Used for audited financial statements (US GAAP) | No | Yes |
What changes when you sell products
Inventory makes the difference sharper. On a pure cash basis, a big stock purchase looks like a loss in the month you pay for it, even though you still own the goods.
For taxes, US rules have changed in recent years. Many small businesses that pass the IRS gross receipts test can now use the cash method even with inventory, and the threshold is adjusted for inflation each year. Ask your tax professional which method fits your return.
For running the business, tracking inventory and cost of goods sold properly gives you real margins whichever tax method you file under. See inventory bookkeeping.
How to choose
- Cash suits very small businesses with simple, quick payments and little or no inventory.
- Accrual suits businesses that invoice customers, receive supplier bills on terms, hold inventory, or need financial statements for a lender or investor.
- Changing your tax method later generally needs IRS approval (usually Form 3115), so decide with your accountant early.
Common questions
Is accrual accounting harder?
A little. You record invoices and bills when they happen, not just bank activity. Software that tracks open invoices and unpaid bills does most of that work.
What is modified cash accounting?
A mix some businesses use: cash basis for most items, accrual for a few such as inventory or large equipment. Your accountant can say whether it suits you.
Keep your books this way without the busywork
YourAILedger tracks inventory, purchase orders and suppliers, reconciles imported bank statements and guides your month-end close. Plans start at $29 a month.
No credit card required.
This guide is general education, not tax, legal or accounting advice. Rules vary by business and location, so confirm your situation with a qualified professional.