Cash Basis Accounting
Definition
Cash basis accounting is an accounting method that records revenue when cash is received and expenses when cash is paid, regardless of when the actual transaction occurred.
Explanation
Cash basis accounting is simpler than accrual accounting and is commonly used by small businesses, sole proprietors, and freelancers. It provides a clear picture of actual cash flow but may not accurately reflect the true financial health of a business.
Under GAAP, businesses with inventory or annual revenue above a certain threshold are generally required to use accrual accounting. Cash basis accounting is not suitable for businesses that extend credit or carry inventory.
Example
A landscaper completes a $2,000 project in November but doesn't receive payment until January. Under cash basis accounting, the income is recorded in January when the payment arrives.