What is accounting, and what is it for?
Profit is defined as income received by an economic entity during the reporting period, reduced by the number of costs incurred. Income can be sold, i.e. received as a result of main activities (sale or resale of goods, services) and non-sale (exchange rate differences, interest on deposits). Not all income is involved in the formation of profit. As a rule, more entities prefer to use the accrual method in determining income tax. But at the same time, under certain circumstances, it is allowed to use the cash method.
It should be recalled that under the first method of accounting as income and expenses are taken these operations took place. However, they are not always accompanied by the indispensable movement of funds. Payment for any goods or services, as well as other settlements, can come later.
If we talk about a business accounting company, the legislation specifies the number of organizations that can keep it in a simplified manner. Only such enterprises are allowed to record income and expenses at the time of payment.
What is the difference between accrual vs cash accounting? We’ll look at it in detail below.
Income under the cash method
Revenues from the resale of goods, sale of own products, and rendering of services are recognized as income of an organization. The moment of its determination depends on the method applied.
The cash method assumes that revenue is formed under the following circumstances:
– the actual receipt of revenue in cash, to the settlement accounts;
– the day of receipt of property rights and other assets;
– repayment of debts to taxpayers by other means.
Thus, under the cash-based method, the revenue of the organization is recognized as revenue on a factual basis.
Expenses on a cash basis
If an organization has chosen the cash method of accrual when calculating income, the subject’s expenses are accounted for differently than under the accrual method. Expenses incurred may be classified as expenses only after they have been paid on a cash basis, and it makes no difference whether they have already been accounted for by the taxpayer before.
To confirm material expenses (except for expenses for the purchase of raw materials, goods), settlements with personnel by cash method, the following factors must be present:
– The actual payment of the debt through the cashier’s office or current account;
– At the moment of settling liabilities in another way.
The costs of payment for raw materials and the purchase of goods for resale are recognized at the moment of their sale. Depreciation charges are confirmed at the moment of their accrual. Tax expenses are recognized in the period of debt repayment.
Profit on an accrual method of accounting
Quite often, there is a difference between accounting and tax accounting. However, concerning income tax on an accrual-based accounting, the two types of accounting are as close as possible. This happens for the following reasons:
- First, revenue should be recorded not when it is received, but when products are shipped or services are rendered. The corresponding entry in the accounting is made based on the dates of issued documents.
- Secondly, non-operating income (fines, for example) should be accounted for on the same principle. For example, fines should be included in income and put on the date when such sanction is recognized by the debtor voluntarily or by a court decision.
Expenses are also allowed to be accounted for in the period in which they arise, without regard to the date of payment.
Choice of accrual accounting vs cash accounting and its fixation in the accounting policy for accounting
It should be taken into account that small businesses can choose between the income and expense recognition methods described above. Other entities are not given such a choice.
In addition, it is the responsibility of any enterprise to fix the chosen accounting methods cash vs accrual method in the accounting policy for accounting and tax accounting purposes.
