What is the difference between the cash basis and the accrual basis of accounting?
Under the cash basis of accounting...
Revenues are reported on the income statement in the period in which the cash is received from customers.
Expenses are reported on the income statement when the cash is paid out.
Under the accrual basis of accounting...
Revenues are reported on the income statement when they are earned—which often occurs before the cash is received from the customers.
Expenses are reported on the income statement in the period when they occur or when they expire—which is often in a period different from when the payment is made.
The accrual basis of accounting provides a better picture of a company's profits during an accounting period. The reason is that the income statement prepared under the accrual basis will report all of the revenues actually earned during the period and all of the expenses incurred in order to earn the revenues.
The accrual basis of accounting also provides a better picture of a company's financial position at a moment or point in time. The reason is that all assets that were earned are reported and all liabilities that were incurred will be reported.
The accrual basis of accounting is required because of the matching principle.
