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Cash Accounting

Some Definitions of Cash Accounting:

1. An accounting method where receipts are recorded during the period they are received, and expenses are recorded in the period in which they are actually paid. Cash accounting is one of the two forms of accounting. The other is accrual accounting, where revenue and expenses are recorded when they are incurred.

Small businesses often use cash accounting because it is simpler and more straightforward, and it provides a clear picture of how much money the business actually has on hand. Corporations, however, are required to use accrual accounting under generally accepted accounting principles.

2. An accounting system that doesn’t record accruals but instead recognizes income (or revenue) only when payment is received and expenses only when payment is made. There’s no match of revenue against expenses in a fixed accounting period, so comparisons of previous periods aren’t possible.

3. An accounting method in which income is recorded when cash is received, and expenses are recorded when cash is paid out. Cash basis accounting does not conform with the provisions of GAAP and is not considered a good management tool because it leaves a time gap between recording the cause of an action (sale or purchase) and its result (payment or receipt of money).

It is, however, simpler than the accrual basis accounting and quite suitable for small organizations that transact business mainly in cash. Also called cash accounting.

Cah Accounting

Cash Accounting Basics

  1. It is the simplest method of accounting.
  2. Transactions are recorded only on the actual flow of cash in or out of business.
  3. Revenue is recognized only when cash is received from the customer while expenses are recorded only when cash is paid.
  4. There cannot be any match of the revenue against expenses in an accounting period.
  5. Cash accounting is ideal for sole proprietors or businesses with no inventory.
  6. Cash basis is considered beneficial from the taxation point of view as recording income can be put off to the next year and expenses can be booked immediately.

Advantages of Cash Basis of Accounting:

  • It is very simple as adjustment entries are not required for prepaid and outstanding expenses.
  • This approach is more objective as very few judgements are required.
  • This is suitable for all organizations whose transactiona are on cash basis.
  • Data can be taken from minimal sources – bank statements, cheque book, deposit book.
  • People with limited accounting knowledge can more easily understand the financial reports,.

Disadvantages of Cash Basis of Accounting:

  • It ignores prepaid and outstanding expenses, accrued income and income received in advance.
  • It does not follow the matching principle of accounting.
  • This does not differentiate revenue and capital items, and as a result there is no consistency in the profits of consecutive years.
  • Less insight into long term trends.
  • No structure for invoicing.
  • Does not conform to GAAP.

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