Cash vs Accrual in QuickBooks: Which Method is Right for Your Business in 2023?

Tom Zehentner

Cash vs accrual, Marvel vs DC, cats vs dogs - these are the classic debates that ignite passionate arguments among people.

While all of these are standard debates, choosing between cash and accrual accounting methods for your business is one such decision that can make or break your financial future - and is truly the most important, sorry dog lovers. 

In this article, we'll explore both methods in QuickBooks Online and help you determine which one aligns better with your goals, mission, and values while giving you the freedom to grow without any constraints.

what is cash basis accounting

What is Cash Basis Accounting?

Cash accounting, also known as cash-basis accounting, records revenue when cash is received and expenses when they are paid in cash.

It's one of the simplest methods to use because it only requires careful bookkeeping practices for tracking cash transactions.

Since this method records income when payment is received and expenses when they are paid, it allows business owners to see exactly how much money they have on hand at any given time.

However, it's important to note that while this method may be easier than other forms of accounting, keeping track of every transaction can become tedious over time.

advantages of cash basis accounting

Advantages of Cash Basis Accounting

With the cash basis method, transactions are only recorded when money actually changes hands, which means it reflects the actual cash flow of your business.

  • Simplicity: Cash basis accounting only records cash paid or received, making it easier to track cash flow
  • Cost-effectiveness: It is cheaper and easier to use than accrual accounting, especially for small businesses with limited resources
  • Low Learning Curve: It has a lower learning curve than accrual accounting
  • Cash flow focus: Cash basis accounting focuses on concrete funds coming in and going out, existing in the present moment.
disadvantages of cash basis accounting

Drawbacks of Cash Basis Accounting

Cash basis accounting might be simpler than accrual accounting, but it comes with several significant drawbacks.

  • Financial statements generated through cash basis accounting do not reflect a company's overall financial health or growth prospects.
  • Cash flow statements only track payments received and made by the business, without taking into account any outstanding receivables or payables.
  • Relying solely on cash basis accounting can lead to uninformed decisions based on incomplete information.
  • Comparing profit and loss data from different periods becomes more challenging since revenue recognition varies depending on when payment was actually received.
  • Difficulties arise in projecting future earnings or identifying trends in performance.

Example of Cash Basis Accounting

While cash basis accounting may seem like a simple approach, it has its drawbacks.

Let's say you own a small business selling handmade jewelry. You just made a sale of $500 to a customer who paid in cash. You would record this transaction as $500 in revenue in your books, indicating that you received $500 in cash.

Now, let's say you need to purchase supplies for $200 to make more jewelry. You pay for the supplies in cash, and you would record this transaction as $200 in expenses in your books.

At the end of the month, you would look at your cash balance to see how much money you have on hand. Let's say you have $300 left over after paying all your bills and expenses. You would record this as your net income for the month.

As you can see, cash basis accounting is straightforward and easy to understand. However, it only accounts for cash paid or received and does not consider any outstanding debts or credits, making it important to also track accounts receivable and payable to get a complete financial picture of your business.

what is accrual accounting

What is Accrual Basis Accounting?

The accrual accounting method is a financial reporting technique that records revenues and expenses when they are earned or incurred, regardless of the cash flow.

This means that transactions are recorded in an accrual basis report during the period of time it was made, even if payment has not been received yet.

The reason why companies use this type of accounting is to have a more accurate representation of their financial status.

Learning how to do accrual accounting in QuickBooks is not difficult, businesses can easily record transactions and generate detailed accrual basis reports for better decision-making.

By choosing to utilize this approach, businesses can gain insights into their financial performance based on actual revenue and expenses instead of just looking at cash inflows and outflows.

Advantages of Accrual Basis Accounting

Now that we know what accrual basis accounting is, let's explore the advantages it offers to businesses. By incorporating this method into your business, you can gain a clearer picture of its financial health at any point in time.

  • It is required by GAAP and can prepare businesses for future growth and requirements.
  • It provides more transparency by reflecting a business's financial health accurately and showing all incoming and outgoing payments.
  • Accrual accounting simplifies strategic planning by allowing businesses to identify future cash flow activities and better plan for potential crises and opportunities.

Ultimately, implementing accrual basis accounting provides businesses with better insights into their finances, allowing them to make informed decisions that lead to long-term success.

disadvantages of accrual accounting

Drawbacks of Accrual Basis Accounting

Despite the advantages of accrual basis accounting, there are some drawbacks to consider before using this method of accounting.

  • Accrual accounting is complex and requires detailed record-keeping
  • Implementing and maintaining accrual accounting requires more staff than cash accounting
  • Switching to accrual can be difficult for businesses already using a different accounting method, especially if they have cash flow issues. However, accrual accounting provides benefits such as cash flow improvement and transparency.
  • Generating a cash flow statement can be more complex and labor intensive.

Example of Accrual Basis Accounting

While accrual basis accounting has its advantages, there are also some drawbacks that businesses should take into consideration.

Let's say you own a small software company that sells monthly subscriptions to its cloud-based product. In January, you sign up a new customer who agrees to pay $12,000 for a one-year subscription. Under a cash accounting method, you would record the full $12,000 as revenue in January despite your obligation to provide 12 months of software. Under an accrual method, you must record the $12,000 as deferred revenue when received, then recognize $1,000 each month as revenue over 12 months. 

Let’s say you also employ contractors to provide customer support. They provide services throughout the month, track their time, and bill you one month in arrears. So in February the contractors provide $500 worth of labor, but do not bill you for the labor until March. Under accrual accounting you must recognize the $500 expense in February despite the cash not being paid until March, whereas if you were on a cash basis the expense would be recognized in March when the cash was paid. 

Throughout the year, you would continue to record revenue and expenses as they are earned and incurred, regardless of when the cash is received or paid. This allows you to have a more accurate picture of your company's financial health and performance over time, even if cash flow fluctuates from month to month.

At the end of the year, you would be able to see your company's total revenue and expenses, as well as any outstanding receivables or payables, which would give you a more comprehensive view of your business's overall financial situation.

Overall, deciding between cash vs accrual in QuickBooks depends on several factors such as your business size, industry regulations, and level of accounting expertise. While both methods have their unique benefits and challenges, it's important to carefully consider which approach will work best for your company's long-term success. By using tools like QuickBooks' flexible reporting features and expert advice from a certified accountant or bookkeeper, you can ensure that your business remains compliant while maximizing profits.

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How to Choose Between the Two Methods in QuickBooks

When it comes to choosing between a cash basis and an accrual basis for your accounting method, there are several factors you need to consider. Here are some tips to help you decide which one is right for your business:

  1. Determine what method of accounting will best suit your needs based on the size and complexity of your business.
  2. Consider how each method affects accounting for tax purposes. While a cash basis can simplify the process, an accrual basis may provide a more accurate picture of your financial standing.
  3. Familiarize yourself with the basic accounting principles associated with both methods. This includes understanding when revenue is recognized and expenses are incurred under each system.
  4. Lastly, think about how easy it will be to keep accurate accounting records using either method. Make sure that monthly reports can easily be generated in order to stay on top of tracking revenues.

Differences Between the Two Methods in QuickBooks

When it comes to accounting, businesses using QuickBooks have the option of choosing between cash and accrual basis methods. Cash-basis taxpayers record revenue when they receive cash and expenses when they pay cash, whereas businesses using the accrual-basis method record revenue when it is earned and expenses when they are incurred. Choosing the right method is crucial for tax purposes and financial statements, as it can affect journal entries and the balance sheet.

The accrual basis method provides a more accurate picture of a company's financial health, including deferred revenue and outstanding debts that can be easily entered into QuickBooks. While cash basis taxpayers may have an easier time tracking cash flow, they may miss out on recognizing revenue and expenses that have not yet been paid. Converting from the accrual basis method to the cash basis method can help identify unrecognized revenue and expenses, but it is important to consider the impact on journal entries and the balance sheet.

Based on this information, it is important for businesses to carefully consider which method is best for their accounting needs. While the cash basis method may be simpler for some, it may not provide an accurate representation of a company's financial position. The accrual basis method may require more time and effort, but it can provide a more comprehensive understanding of a business's financial health. Ultimately, the decision should be based on the specific needs and goals of the business.

How to Decide Which Method is Best for You

When it comes to accounting practices, there are two main options: cash accounting and accrual accounting.

Deciding between the two requires careful consideration of various factors, such as the size of your business, industry norms, and future plans. If you're looking for a clear picture of your business performance over time, accrual accounting may be the way to go. This method allows you to track revenue and expenses on a month-to-month basis based on information that hasn't necessarily been paid or received yet.

On the other hand, if you're running a small operation where immediate cash flow is critical, cash accounting may be the better option. It's important to note that accounting standards and regulations may also impact your decision, so it's a good idea to consult a professional or use a business accounting checklist to assess which method is best suited for your needs.

Best Option for Small Businesses

There is no one-size-fits-all answer to whether cash or accrual accounting is better for a small business, as it depends on various factors such as business type, size, and financial goals. The goal for every business should be to eventually use an accrual basis, but the time at which you switch over is ultimately up to you.

Cash accounting is more straightforward and suitable for businesses with simple transactions, where immediate cash flow is critical, and don't have to deal with deferred revenue or prepayments.

Accrual accounting provides a more accurate picture of a company's financial health and long-term profitability, as it records transactions when they occur, regardless of whether funds have been exchanged or not. This method is more suitable for businesses with complex transactions, future investment plans, or seeking investors.

It's recommended to consult with an accountant or financial advisor to determine which accounting method best suits your specific business needs.

Best Option for Midsize Businesses

Mid-sized businesses face a unique set of challenges when it comes to choosing the right method of accounting.

While cash-based accounting may seem like a straightforward option, accrual-based accounting offers numerous benefits that cannot be overlooked. 

When your business grows beyond a certain point, you need an advanced accounting person or team to handle complex transactions and financial statements. That's where accrual-based accounting shines as it provides accurate reporting on long-term revenue streams and expenses. Larger businesses often find this method more suitable as they have significant financial activities happening throughout the year.

With accrual-based accounting, companies can obtain a better understanding of their net income and financial health. However, deciding on the best method of accounting must not solely rely on the size of your business. The type of industry you operate in is another critical factor to consider before making any decision. For instance, service-oriented industries benefit substantially from accruing revenues because they provide services over extended periods while incurring costs upfront. SaaS businesses selling annual subscriptions and taking cash upfront should consider moving to accrual sooner than other businesses that often exchange cash at or close to the same point that value is transferred between them and their customers or vendors.

Additionally, partnering with an accounting software partner that specializes in accrual-based systems can significantly improve efficiency and accuracy in recording transactions. Hence, mid-size businesses should weigh all these factors carefully before settling on one particular method of accounting. 

Best Option for Large Businesses

According to GAAP, businesses that exceed $25 million in annual revenue are required to use the accrual method of accounting. This method is often the best option for larger businesses, especially those that have inventory or offer credit to customers.

Ultimately, the decision of which accounting method to use depends on the specific needs of your business and its industry regulations. It's important to consult with professionals before making a final decision. By doing so, you can ensure that you are following all appropriate accounting standards and regulations, while also maximizing the financial health of your business.


How to choose between cash and accrual accounting methods in QuickBooks Online

Select a report under Business Overview > Reports. Choose Accounting Method as Cash or Accrual, or use Customize Report to change the setting in the General section.

Can you switch between cash and accrual in QuickBooks

To switch between Cash and Accrual accounting methods in an individual report: Go to Business Overview, select Reports, and choose a report. Then select Cash or Accrual under Accounting Method, or customize the report in the General section.

Which is more accurate cash or accrual?

Accrual accounting is more accurate than cash accounting because it tracks receivables and payables, giving a full picture of your business's finances.

Does QuickBooks use accrual accounting?

In QuickBooks, you have the ability to switch between cash accounting and accrual accounting whenever you need to.

When should a company switch from cash to accrual?

IRS requires a switch to accrual after $25M in revenue. Changing methods during growth wastes time and money. PE firms and banks often prefer accrual for funding. 

How do I get an accrual report in QuickBooks?

  1. Go to Business Overview.
  2. Select Reports and click on "Take me there."
  3. Choose a report.
  4. Under Accounting method, select Cash or Accrual.
  5. If you want to customize the report, click on the Customize button and make changes in the General section.
  6. Click on Run Report.
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Tom Zehentner

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