...The two main methods of recording accounting transactions are cash basis accounting and accrual basis accounting. Each method has both advantages and disadvantages. However, only one method is approved by GAAP. Cash basis accounting is the method in which cash receipts and cash payments are recorded during the period in which they occur (Spiceland et. al., p. 7). Under the cash basis accounting method, the revenue is recognized when the cash is received and the expense is recognized when the cash is disbursed. In addition, there is no inventory account under the cash basis method. Goods and materials purchased for sale are recorded as direct costs in the period that payment is made for those goods and materials (Berry). Cash basis accounting is a simple and inexpensive method to implement and utilize. It also provides an accurate representation of cash flow. Additionally, the cash basis method provides the opportunity to "defer taxable income by delaying billing so that payment is not received in the current year.Cash basis accounting does not comply with two important accounting principles: the revenue recognition principle and the matching principle. Since the cash basis technique does not recognize receivables or payables, it is not an accurate method of measuring profit (Nelson). Accrual basis accounting is the method in which revenue is recognized when earned, and expenses are recognized when incurred. Additional accounts must be created to record the difference between...
Words: 575 - Pages: 3
...record the transaction of a company, which are cash basis accounting and accrual basis accounting. In this essay, I will talk about the differences between the two accounting systems. Then the advantages and disadvantages of cash basis and accrual basis accounting will be discussed. The statement in the third sentence about how to calculate profit uses accrual basis accounting method instead of cash basis accounting. Rich et al. (2009, p.115) says “ under cash basis accounting, revenue is recorded when cash is received, regardless of when it is actually earned. Similarly, an expense is recorded when cash is paid, regardless of when it is actually incurred.” It means that cach basis accounting only records transactions when the cash has been received or paid out. Accrual basis accounting (also called accrual accouting) is another system of transaction recording for a organization. It is an alternative system to cash basis accounting. “ under accual accounting, a company records recenues in the accounting period in which they are earned and realized, and records expenses in the accounting period they are incured.” (Nikolai, Bazley & Jones, 2009, p.105) It means that the corporation records the transaction in the period in which the events occur without consider when the cash is received or paid out. There are some differences between cash basis and accrual basis accounting. In order to distinguish cash basis accounting from accrual basis accounting, it is necessary to know the time...
Words: 1183 - Pages: 5
...“ACCRUAL VS CASH BASIS ACCOUNTING” Enrolled Name: Winda Wijaya Tutorial time: Thursday 11.00 AM Tutor: Ian Beck Accounting is the most crucial part in the business operation as it provides reports which show how well the business operates. In order to maintain a well-develop business, there are lots of things that should be taken into consideration by the business and one of them is choosing the right method to do the accounting. In this essay, two methods of doing accounting will be described specifically, such as: cash-basis accounting and accrual accounting along with advantages and disadvantages of both approaches. Also, this will explain how profit manipulation could occur in a business. The first method is cash-basis accounting which usually used by small businesses as it records only cash receipts and cash payments, ignoring all receivables, payables, etc (Horngren et al. 2007:12). It treated cash receipts like revenue and cash payments like expenses. It records cash receipts whenever there is cash inflows and records cash payments whenever there is a use of assets and expenses. The second method is accrual accounting which is used by most of the big businesses. According to Horngren et al. (2007:102), effect of each transactions made by business are recorded as it occurs in accrual accounting. Recognition of revenue and matching principle are applied. Revenue will be recorded right after it is earned, expenses will...
Words: 610 - Pages: 3
...Cash vs Accrual Under the cash basis of accounting… 1. Revenues are reported on the income statement in the period in which the cash is received from customers. 2. Expenses are reported on the income statement when the cash is paid out. Under the accrual basis of accounting… 1. Revenues are reported on the income statement when they are earned—which often occurs before the cash is received from the customers. 2. 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. The main difference between accrual and cash basis accounting is the timing of when revenue and expenses are recognized. The cash method is most used by small businesses and for personal finances. The cash method accounts for revenue only when the money is...
Words: 1632 - Pages: 7
...way that reflects the operational structure of the organisation and yet their varying objectives (Barton, 2000). There exist two main schools of thought on the nature of accounting in the public sector, each of which is formulated by the view of the role of the public sector within the economy (Evans, 1995). The traditional method of accounting within public sector organisations has often advocated the use of the cash basis of accounting, with larger emphasis rather placed on compliance with the rules and regulations governing the sector (Wynne, 2003). However, weaknesses in public sector management have brought to the fore the importance of efficiency and hence the adoption of the accrual method of accounting within the public sector. According to Alexander, Britton and Jorissen (2011), the accrual basis of accounting recognises income and expenditure from transactions at the point of occurrence rather than when the cash for the transactions is either received or paid. On the other hand, the cash basis of accounting is more concerned with when the actual cash is received for the transactions. As such, the divide in opinion in public...
Words: 2482 - Pages: 10
...acc Accrual V.S. Cash Accounting Miguel Gonzalez ACC/290 August 3, 2012 Dr. Dorothy Welch In this assignment, I will describe the cash basis of accounting and the accrual basis of accounting and will explain the difference. Cash Basis accounting is the easy and less expensive method of accounting. In this method of accounting, cash is recognized when the physical cash transaction occurs. Thus, this method does not recognize payables, receivables, and prepaid expenses. Additionally, cash basis accounting does not comply with the revenue recognition principle and the matching principle. In accrual basis of accounting, revenue is recognized when it is earned and expenses are recognized when they are incurred. Susan Ward states, “Accrual basis accounting gives the most accurate picture of the financial state of your business.” We are essentially keeping track of the most current business practices, such as to who owes who money, and service. When the customer owes us money, we create an accounts receivable. When we owe money we create an accounts payable. When we pay cash before an expense we create a deferred expense account. There are key differences between the methods of accounting. In cash basis, taxable income may be deferred to the next year due to delays in billing. However, in accrual basis, the company might have to pay taxes on income before payment is received. Under the cash basis method, there is no company...
Words: 392 - Pages: 2
...statement of cash flows? The statement of cash flows reports the cash receipts, cash payments, and net change in cash resulting from the operating, investing, and financing activities of a company during a period in a format that reconciles the beginning and ending cash balances (b) Mark Paxson maintains that the statement of cash flows is an optional financial statement. Do you agree? Explain. Disagree. The statement of cash flows is required. It is the fourth basic financial statement. 2. What questions about cash are answered by the statement of cash flows? The statement of cash flows answers the following questions about cash: (a) Where did the cash come from during the period? (b) What was the cash used for during the period? and (c) What was the change in the cash balance during the period? 3. Distinguish among the three activities reported in the statement of cash flows. Operating activities include the cash effects of transactions that create revenues and expenses and thus enter into the determination of net income. Investing activities include: (a) purchasing and disposing of investments and productive long-lived assets and (b) lending money and collecting loans. Financing activities include: (a) obtaining cash from issuing debt and repaying amounts borrowed and (b) obtaining cash from stockholders, repurchasing shares, and paying them dividends. 4. (a) What are the sources (inflows) of cash in a statement of cash flows? Major sources of cash in a statement...
Words: 1713 - Pages: 7
...records is essential for the effective running of the business and as an indicator of performance and the economic health of the company. This can be achieved in one of two ways; the cash basis method or the accrual basis method. The former captures expenses at the time they are paid and revenues when payment for goods or services is received. This is perhaps more familiar to those without knowledge of generally accepted accounting principles, because it more closely resembles personal financial management. Although credit and other fiscal instruments are used in some cases by individuals in their personal matters, most people generally manage personal financial statements on a cash basis. This method is effective for an individual, or perhaps a very small business with a small number of accounts and minimal transactions to record. There are, however, a number of disadvantages with this method; chiefly among these is the difficulty it causes businesses in associating operating expenses to revenues. Cash flows alone do not accurately reflect the operating activities of the organizations, and “The accrual basis of accounting overcomes the chief limitation of the cash basis – a possible mismatch of revenue and expenses.” (Ristea, Doros, Ioanas, & Morega, 2010, p. 208). When employing the accrual basis of accounting, financial events are recorded at the time they occur. For example; when a service is rendered to a customer, the company will generate an invoice and record this revenue...
Words: 443 - Pages: 2
...accounts. Along with journalizing transactions and adjusting entries, the accounting cycle involves closing entries and preparing a post-closing trial balance. I believe that the most important skills learned in an accounting position is to understand the basic equation of accounting, assets + liabilities + stockholder’s equity. Most accounting goes back to this equation as the basis for balancing accounts when transactions are journalize. The two types of accounting methods used to maintain financial records and prepare reports are the accrual and cash basis accounting. Accrual basis accounting is accepted under the Generally Accepted Accounting Principles (GAAP). This principle states that the accounting transactions are recognized and recorded when the expense or revenue actually occurred, not when cash changes hands (James, 2012). The benefit of accrual basis accounting is expenses and revenues which can be matched as they happen, and much more effective for monitoring cash flow (Epstein, n.d.). Accrual accounting has a more complicated recording process than cash basis accounting which can be a disadvantage when it comes time to pay taxes. Since this accounting method requires that expenses and revenue are recorded right away, the taxes must be paid on the recorded revenue; even if it’s not been paid (Reference For Business, 2012). The adjusting entries are recorded at the end of every accounting period after the trial balance. There are five types of adjusting entries that are...
Words: 460 - Pages: 2
...marketing, production, management, or information systems should each understand fundamentals of accounting and business structures to be more effective in their respective departments (Kimmel, Weygandt, & Kieso, 2007). In an effort to help facilitate this understanding the following paper will attempt to identify and describe sources of generally accepted accounting principles, (GAAP) with a highlight on why hierarchy is important, describe effective accounting information using the qualities of accounting information, describe how an accrual based accounting system is different from a cash basis of accounting, and describe types of business structures and the defining features of each structure. Sources of GAAP An essential accounting concept business managers should understand is the hierarchy of the GAAP. GAAP are common accounting procedures that organizations use to prepare their financial statements. The standards outlined by the GAAP are the basis for accounting in the United States (Pounder, 2011). It is essential managers understand the GAAP hierarchy as they are preparing statements. Standards can often be complex, ambiguous or conflicting therefore, hierarchy levels of the GAAP were established as a framework for selecting the principle to be used when preparing statements. The categories are set up as the most authoritative being category A, which includes FASB standards, interpretations, and staff positions; APB opinions; and AICPA...
Words: 947 - Pages: 4
...adjusting entries, the accounting cycle also involves closing entries and preparing a post-closing trial balance. We believe that the most important of the skills learned when we are in an accounting position is to understand the basic accounting equation, assets + liabilities + stockholder’s equity. Most accounting concepts all go back to this equation as the basis for balancing accounts when transactions are journalized in them. There are two types of accounting methods used to maintain financial records and prepare reports: accrual and cash basis accounting. Accrual basis accounting is the method that is accepted under the Generally Accepted Accounting Principles (GAAP). This principle holds that accounting transactions are recognized and recorded when the expense or revenue actually occurred, not when cash changes hands (James, 2012). The benefit of accrual basis accounting is that expenses and revenues can be matched as they happen, which is much more effective for monitoring cash flow (Epstein, n.d.). Accrual accounting has a more complex recording process than cash basis accounting and can be a disadvantage when it comes time to pay taxes. Because this accounting method requires that expenses and revenue are recorded right away, the taxes must be paid on the recorded revenue; even if it has not been yet been paid (Reference For Business, 2012). Adjusting entries are recorded at the end of every accounting period after the trial balance. There are five types...
Words: 786 - Pages: 4
...of Cash Flows The statement of cash flows reports the cash receipts, cash payments, and the net change in cash resulting from the operating, investing, and financing activities of a company during the period. The information in a statement of cash flows should help investors, creditors, and others assess: ▪ The company’s ability to generate future cash flows. By examining relationships between items in the statement of cash flows, investors and others can better predict the amounts, timing, and uncertainty of future cash flows. ▪ The company’s ability to pay dividends and meet obligations. Employees, creditors, stockholders, and customers should be particularly interested in this statement because it alone shows the flows of cash in a business. ▪ The reasons for the difference between net income and net cash provided (used) by operating activities. Many financial statement users investigate the reasons for the difference between net income and cash provided by operating activities and then they can assess for themselves the reliability of the income numbers. ▪ The investing and financing transactions during the period. By examining a company’s investing activities and financing activities, a financial statement reader can better understand why assets and liabilities increased or decreased during the period. Study Objective 2 - Distinguish Among Operating, Investing, and Financing Activities The statement of cash flows classifies cash receipts...
Words: 3088 - Pages: 13
...Explaining Basic Accounting Concepts and Business Structures Financial Accounting ACCT 537 Accountants use financial information to communicate how a business is performing. They present this information in financial reports. These reports are created following a common set of standards call General accepted accounting principles (GAAP). These standards and principles are established by the Financial Accounting Standard Board (FASB), the American Institute of certified Public Accountants (AICPA) and the Accounting Principle Board (APB). The SEC Is federal agency established to “help develop and standardize financial information presented to the stockholders” (Kieso 2007 pg. 6). It is responsible to enforce financial principles created. The FASB, the AICPA and the APB are institution formed by the private sector; the SEC believed that standards and principles should be created by the private sectors because it “has the appropriate resources and talent to achieve this daunting task” (Kieso 2007 pg. 6). The FASB is also working on establishing standards, “This standard identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements” (Kieso 2007 pg. 12). It is important that the hierarchy establish by the FASB is use because it gives accountants the ability to deal with any situations that have not been define by the standards and principles and it will also help identify issues that are widely...
Words: 912 - Pages: 4
...use of the accruals basis 5.1 Government accounting Government accounting is the process of recording, analyzing, classifying, summarizing communicating and interpreting financial information about government in aggregate and in detail reflecting transactions and other economic events involving the receipt, spending, transfer, usability and disposition of assets and liabilities. The purposes of government accounting are: • To carry out the financial business of government in a timely, efficient and reliable manner (e.g. to make payments, settle liabilities, collect sums due, buy and sell assets etc.) subject to necessary financial controls. • To keep systematic, easily accessible accounting and documentary records as evidence of past transactions and current financial status, so that detailed transactions can be identified and traced and all aggregates can be conveniently broken down into their constituent parts. • To provide periodic financial statements, containing appropriately classified financial information, as a basis for (a) stewardship and accountability and (b) decision-making. • To maintain financial records suitable for budgetary control, internal control and the needs of auditors. • To provide means for effective management of government assets, liabilities, expenditures and revenues. In government, the producers of accounting information are rarely qualified accountants. Therefore few have experience of accrual accounting...
Words: 2681 - Pages: 11
...information portrayed by the financial statements of an organization. In addition, the basic format of the financial statements can disclose additional considerations of the business, as will be discussed in the analysis of three major businesses within this paper. Information for the analysis portion was retrieved from the financial statements included in the assignment. Keywords: Accrual Basis Accounting; Cost Basis Accounting; Current Assets and Liabilities; Double Entry Accounting; Financial Accounting Standards Board (FASB); General Accepted Accounting Principles (GAAP); Historic Cost; Non-current Items; Security Exchange Commission (SEC); Financial Statements: Foundational Accounting Principles and Terminology Introduction The basic of understanding of an organizations financial statement requires one to be familiar with fundamental accounting principles. The financial statement of any organization must follow standardized reporting rules, also known as Generally Accepted Accounting including double entry accounting, historical cost, accrual basis accounting, cash basis accounting, in addition to current and non-current revenue and liabilities. The common understanding of these principles will allow a manager to investigate the...
Words: 1771 - Pages: 8
