explain and discuss the differences between accrual and cash accounting?

Answer 1

Cash-basis accounting is a method of bookkeeping that records financial events based on cash flows and cash position. Revenue is recognized when cash is received and expense is recognized when cash is paid. It does not recognize promises to pay or expectations to receive money or service in the future, such as payables, receivables, and prepaid expenses. This is simpler for individuals and organizations that do not have significant amounts of these transactions, or when the time lag between the initiation of the transaction and the cash flow is very short.

Accrual-basis accounting records financial events based on events that change your net worth (the amount owed to you minus the amount you owe others). Standard practice is to record and recognize revenues in the period in which they incur and to match them with related expenses in a process known as matching or expense matching. Even though cash is not received or paid in a credit transaction, they are recorded because they are consequential in the future income and cash flow of the company.

Comparison
Using cash-basis accounting, income and expenses are recognized only when cash is received or paid out.
Using accrual-basis accounting, receivables and payables are recognized when a sale is agreed to, even though as yet, no cash has been received or paid out.
Cash-basis accounting defers all credit transactions to a later date. It is more conservative for the seller in that it does not record revenue until cash receipt. In a growing company, this results in a lower income compared to accrual-basis accounting.

Other considerations
Standard accrual-basis financial statements (profit statements and balance sheets) do not indicate the cash inflows and outflows of a company. The Statement of Cash Flows is created to indicate that information for accrual-basis accounting.

Accrual-basis accounting is more costly to maintain, because it requires the bookkeeper to record many more transactions. However, the advent of accounting software has made the difference between the reporting methods less significant.

For tax purposes, cash basis accounting is highly favored because it defers tax burdens until the cash is received. It is often used by small businesses and organizations that are not required to use the accrual method, both for tax reasons and for its simplicity.

Answer 2

Speaking as an accounting professor, let me boil it down to a nutshell for you.

Cash basis accounting means recording transactions whenever cash changes hands. In other words, we record or journalize whenever we actually receive or spend cash.

But in accrual accounting, we don't record simply based on the exchanging of cash, but rather when revenue or expenses are incurred.

For example, if I sell you $1000 worth of stuff today, but you won't be paying me for 30 days, no actual money yet has changed hands.

In cash accounting, nothing would be recorded on the books until the money is actually paid. But in accrual accounting, we'd journalize it as of the date the sale was made! We'd debit accounts receivable and credit sales revenue for $1000.

So it really comes down to when transactions are recorded onto the books.