When you start your business, you determine whether you’ll recognize expenses when they occur – cash basis – or in the period to which they belong – accrual basis.
Let’s say you pay your May rent bill in April. If you use the cash basis of accounting, this expense will be recognized in April. That’s when the money actually leaves your account.
But if you use the accrual method, you’ll recognize the expense in May, because that’s the month to which the expense belongs.
In the same way, if you send out invoices to your customers in July but a customer doesn’t pay their bill until August, the transaction would show up either in July when you created the receivable (accrual) or August when the customer paid (cash).
For your personal finances, cash basis accounting works well. It can also be simple to administer for a small business. The disadvantage is that it doesn’t recognize income and expenses that you expect, but haven’t yet received. If your business has a large expense coming up, the accrual method is more accurate.
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