Recently, the eligibility rules for using the cash method of accounting have been loosened under the Tax Cuts and Jobs Act (TCJA). This change in qualifications offers many benefits, especially simplicity, to companies previously obligated to the accrual method.
The IRS has provided procedures that a small business taxpayer can use to gain automatic consent to change the method of accounting under the TCJA. Most businesses are allowed to make this change unless expressly prohibited from using the cash method or expressly required to use the accrual method.
Cash basis businesses
Cash basis businesses recognize income when it’s received and deduct expenses when they’re paid. Some advantages of using the cash method are:
- The cash method offers simplicity. It is both easier and cheaper to maintain than the accrual method.
- There is greater tax planning flexibility for cash basis businesses than with accrual basis companies. For instance, income can be deferred to the following year by delaying invoices, or deductions can be shifted into the current year by accelerating the payment of expenses.
- Income being taxed the year it is received allows the cash method to do a better job than the accrual method in ensuring that a business has the funds required to pay their yearly tax bill.
Accrual basis businesses
Accrual basis businesses recognize income when it’s earned and deduct expenses when they’re incurred, without regard to the timing of cash receipts or payments. Some advantages of using the accrual method are:
- Accrual basis business may be able to use certain tax planning strategies not offered to cash basis businesses. For example, deducting year-end bonuses that are paid within the first 2 ½ months of the following year and deffering income on certain advance payments.
- The accrual method gives a better picture of a business’s financial performance by better matching income and expenses than the cash method.
- The accrual method is required and compliant under the Generally Accepted Accounting Principles (GAAP) without maintaining two sets of books, as required by the cash method.
We can help to determine which accounting method is best for your business. While cash and accrual are the two main accounting methods, another method may be best for you. You can contact us at 949-860-9902 or click here, and we will contact you.