Cash vs Accrual Accounting

Cash vs Accrual Accounting: Which Method Gives Your Business the Clearest Financial Picture?

Choosing between cash and accrual accounting is not simply about when you enter transactions. The right approach can affect your business reports, cash-flow planning, GST obligations and income-tax reporting.

Key Takeaways

• Cash accounting generally records income when payment is received and expenses when payment is made.
• Accrual accounting generally records income when it is earned and expenses when they are incurred.
• Your bookkeeping method, GST accounting basis and income-tax accounting method are related—but they are not necessarily the same.
• Businesses with aggregated turnover below $10 million can generally choose cash or non-cash accounting for GST, subject to eligibility requirements.
• Cash accounting can make cash movements easier to follow, while accrual accounting usually provides a more complete view of profitability and financial position.
• Profit is not the same as cash in the bank. Well-managed businesses monitor both.
• Changing accounting methods requires care so transactions are not counted twice or missed altogether.

What is the difference between cash and accrual accounting?

The main difference between cash and accrual accounting is when income and expenses are recorded.

Under cash accounting, transactions are generally recorded when money is received or paid.

Under accrual accounting, transactions are generally recorded when income is earned or an expense is incurred—even when the payment happens later.

As business.gov.au explains:

“Cash accounting tracks the actual money coming in and out of your business.”

The Australian Taxation Office describes the income-tax distinction in similar terms. Under the cash basis, business income is generally reported when payment is received. Under the accruals basis, it is generally reported when it is earned.

Although the definitions sound simple, choosing the right method requires more than comparing two bookkeeping settings.

First, understand the three separate accounting decisions

One of the most important distinctions is that your business may need to consider three separate questions:

1. How should transactions appear in your internal bookkeeping and management reports?
2. When should GST be reported on your Business Activity Statement?
3. When should business income be recognised for income-tax purposes?

These methods may align, but they do not always have to be identical.

For example, a business may maintain accrual-based accounting records to monitor customer debts and supplier bills, while remaining eligible to report GST on a cash basis.

ATO guidance confirms that an entity can account for GST on a cash basis while using a non-cash method for income-tax purposes.

Think of these accounting methods as different tools in a goldsmith’s workshop. Each tool has a specific purpose. The best result comes from using the right tool for the right job—not from assuming one method controls everything.

What is cash accounting?

Under cash accounting, income is generally recognised when payment is received, while expenses are generally recognised when they are paid.

Imagine that you issue a $2,200 invoice in June, but the customer pays it in July.

Under cash accounting, the income would generally be recorded when the payment is received in July.

Similarly, if you receive a supplier bill in June but pay it in August, the expense would generally be recorded in August under a cash-based system.

Advantages of cash accounting

It can be easier to understand

Cash accounting closely follows the movement of money through the business bank account. This can make day-to-day bookkeeping simpler, particularly for a smaller business with straightforward transactions.

It may assist with cash-flow visibility

Because income and expenses are recorded when payments occur, cash reports can help business owners understand what has actually come in and gone out.

However, your bank balance is not the same as available profit.

Some of the money in your account may already be committed to:

• GST;
• PAYG withholding;
• employee superannuation;
• supplier bills;
• loan repayments;
• income tax; or
• upcoming operating expenses.

A bank account may appear to glitter, but not every dollar is yours to spend. Some of that gold may already have another owner.

It may reduce GST timing pressure

Eligible businesses using cash accounting for GST generally report GST on sales when customer payments are received. They generally claim GST credits when purchases are paid.

This can reduce the risk of paying GST on an invoice before the customer has paid you.

For part payments, the corresponding portion of the transaction is generally reported as each payment is received or made.

Limitations of cash accounting

Cash accounting is not inaccurate. It accurately records cash that has been received and paid.

However, it may provide an incomplete view of business performance because it does not automatically show:

• unpaid customer invoices;
• outstanding supplier bills;
• accrued expenses;
• money committed to upcoming obligations;
• stock movements; or
• work completed but not yet paid.

business.gov.au notes that cash accounting does not show money owed to the business or money the business owes to others.

This can create misleading timing results.

For example, a business may appear highly profitable because several major supplier bills remain unpaid. Alternatively, it may appear to have had a poor month because it paid several older bills at once.

Cash accounting therefore answers an important question:

What cash has moved?

It may not fully answer:

How profitable was the business during this period?

What is accrual accounting?

Under accrual accounting, income is generally recorded when it is earned and expenses are generally recorded when they are incurred.

This is not always the same as the invoice date.

For example, an invoice may be:

• issued before work is completed;
• issued after goods or services have been supplied;
• a request for a deposit;
• a progress claim;
• disputed by the customer; or
• related to services delivered over several reporting periods.

The correct accounting treatment depends on the underlying transaction—not simply when someone pressed “send” on an invoice.

The ATO states that, under the accruals basis, businesses report income when it is earned, even when payment has not yet been received.

Advantages of accrual accounting

It provides a more complete view of performance

Accrual accounting can show:

• sales earned during the period;
• expenses incurred during the period;
• amounts customers owe;
• amounts owed to suppliers;
• assets and liabilities; and
• the timing of business activity.

This usually makes it easier to compare one month, quarter or year with another.

A clear accrual report can act like a polished gold business scoreboard. It helps reveal whether the underlying operation is genuinely performing—not merely whether cash happened to arrive during the reporting period.

It improves debtor and creditor visibility

Accrual accounting helps businesses monitor accounts receivable and accounts payable.

This can make it easier to identify:

• overdue customer invoices;
• slow-paying customers;
• upcoming supplier commitments;
• pressure on working capital; and
• potential cash-flow gaps.

It may better support planning and finance applications

Lenders commonly want to understand more than the current bank balance. They may request:

• profit and loss statements;
• balance sheets;
• cash-flow information;
• aged receivables;
• aged payables;
• tax returns;
• budgets; and
• financial forecasts.

Accrual reports can provide a clearer view of business performance and financial position. However, they do not guarantee finance approval. Lenders will also consider repayment capacity, security, credit history and cash flow.

Limitations of accrual accounting

Profit may appear before the cash arrives

A business can report a profit while still experiencing serious cash-flow pressure.

For example, you may have earned $100,000 in sales, but if $60,000 remains unpaid by customers, you may not have enough cash to pay wages, suppliers or tax obligations.

That is why profit and cash flow must be monitored separately.

Profit tells you whether the business is creating value. Cash flow tells you whether it can pay its bills.

A profitable business can still fail if too much of its gold is trapped in unpaid invoices, excess stock or work in progress.

It can require more detailed bookkeeping

Accrual accounting often requires additional processes, including:

• bank reconciliations;
• accounts receivable reconciliations;
• accounts payable reconciliations;
• stock adjustments;
• prepayment calculations;
• accrued expense entries;
• depreciation;
• work-in-progress calculations; and
• end-of-period cut-off reviews.

Its usefulness depends on the quality of the records. Poorly maintained accrual accounts can be just as misleading as incomplete cash records.

Cash vs accrual accounting example

Assume your business completes work worth $11,000, including GST, on 20 June. You issue the invoice immediately, but the customer pays on 15 July.

Under cash accounting

The transaction would generally be recognised when the payment is received in July.

For GST purposes, an eligible business using the cash basis would generally report the GST when the customer pays.

Under accrual accounting

The income would generally be recognised when it is earned.

For GST purposes, a business using the non-cash method generally reports GST in the earlier reporting period connected with issuing an invoice or receiving payment, subject to the applicable GST rules.

This demonstrates why accrual accounting can show profit before the cash is available.

Who can use cash accounting for GST?

There are specific eligibility rules for GST cash accounting.

Businesses with aggregated turnover below $10 million can generally choose to account for GST on either a cash or non-cash basis.

Aggregated turnover may include the annual turnover of your business and certain connected or affiliated entities. It is not necessarily limited to the sales shown under one ABN.

Some other entities may also qualify, including certain organisations that account for income tax on a cash basis or fall within another eligible category.

Most larger businesses must use the non-cash method unless another eligibility rule or approval applies.

Eligibility should be reviewed as a business grows. Do not assume that the GST method selected several years ago remains appropriate indefinitely.

Which method applies for income tax?

Income-tax accounting is not simply an unrestricted choice between whichever method produces the better outcome.

ATO Taxation Ruling TR 98/1 explains that the method used must provide a “substantially correct reflex” of the taxpayer’s income.

Relevant considerations may include:

• the nature of the business;
• the size and structure of the operation;
• how income is earned;
• whether the business trades in goods;
• its reliance on employees and equipment;
• normal commercial practice; and
• whether the chosen method appropriately reflects income.

The ATO notes that larger and more complex businesses are more likely to require an earnings or accruals method.

The method should also be used consistently until the circumstances of the business make another method more appropriate.

What happens when a customer does not pay?

Accrual accounting may result in income being recognised before a customer pays.

However, an overdue invoice cannot automatically be removed simply because payment is late.

For income-tax purposes, a business using accrual accounting may be able to claim a deduction when:

• the amount was previously included in assessable income;
• there is little or no likelihood of recovering it;
• the debt is genuinely bad; and
• it is written off correctly.

The ATO emphasises that writing off a debt as bad is not the same as forgiving or waiving the debt.

A cash-basis business generally has no corresponding income-tax deduction for unpaid income because the amount was not included as assessable income in the first place.

Separate GST adjustment rules may apply when a debt is written off as bad or later recovered.

These rules can be technical, particularly for companies, trusts, related-party debts and debts that are later recovered. Obtain advice before processing significant bad-debt adjustments.

Can a business use a combination of cash and accrual accounting?

A business may maintain accrual-based management accounts while accounting for GST on a cash basis, provided it satisfies the GST eligibility rules.

This is sometimes informally called a hybrid approach.

However, that does not mean the business can switch individual transactions between methods to create a preferred result.

Each reporting method must be applied consistently and in accordance with the relevant rules.

A business might, for example:

• use accrual reports to monitor profitability;
• review a cash-flow forecast to manage upcoming payments;
• account for GST on a cash basis; and
• use the appropriate income-tax accounting method based on its circumstances.

This combination can provide useful information, but it must be configured and reconciled correctly.

Should you change your accounting method?

Changing methods is not as simple as changing a setting in your accounting software.

When a business moves from cash to accrual accounting—or from accrual to cash—it may need to review:

• outstanding customer invoices;
• unpaid supplier bills;
• opening balances;
• GST already reported;
• GST credits already claimed;
• deposits and prepayments;
• accrued income;
• accrued expenses; and
• previous income-tax treatment.

Without an appropriate transition review, transactions may be counted twice or omitted completely.

ATO guidance states that a GST accounting-method change begins from the first day of the relevant tax period. Transition rules may then be required.

Before changing methods, obtain professional advice and confirm how the change will affect your bookkeeping, BAS reporting, tax returns and management reports.

Which accounting method is best for your business?

There is no universal answer.

Cash accounting may be suitable when:

• customers usually pay immediately;
• transactions are relatively simple;
• the business carries little or no stock;
• there are few unpaid invoices or bills;
• the business is eligible to report GST on a cash basis; and
• the owner primarily needs straightforward cash-flow information.

Accrual accounting may be suitable when:

• customers receive payment terms;
• the business has substantial receivables or payables;
• stock or work in progress is significant;
• the business enters longer-term contracts;
• detailed management reporting is required;
• the business is growing;
• finance may be sought; or
• the business needs a clearer picture of profitability and financial position.

The best method should provide reliable information while meeting your legal and tax obligations.

The golden rule: monitor both profit and cash flow

Choosing cash or accrual accounting should never mean ignoring the other side of the financial picture.

A business using accrual accounting still needs a cash-flow forecast.

A business using cash accounting still needs to monitor unpaid invoices, outstanding bills and future commitments.

Your profit and loss statement, balance sheet and cash-flow information should work together. Each reveals a different part of the story.

A single report may show a flash of gold. Looking at the complete financial picture helps determine whether the business is building lasting value—or simply reflecting temporary movement in the bank account.

Get the right accounting foundation for your business

The correct accounting method can improve financial visibility, support better decisions and reduce the risk of GST or income-tax reporting errors.

At DJ Grigg Financial, we can help you:

• review whether your current accounting method remains appropriate;
• confirm your GST accounting eligibility;
• improve the accuracy of your bookkeeping;
• understand the difference between profit and cash flow;
• set up useful management reports;
• review debtors, creditors and working capital; and
• manage a change of accounting method correctly.

Do not let an unsuitable accounting setup hide the real value—or the real risks—inside your business. Contact DJ Grigg Financial to make sure your financial records provide a clear and reliable path from groundwork to gold.

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Important Information: This article provides general information only. It does not take into account your business structure, circumstances or reporting obligations. Accounting, GST and income-tax treatments may differ. Seek professional advice before selecting or changing an accounting method.