When you start a business, there are a number of initial decisions you’ve to make. One of those decisions is which accounting method you’re going to use to record your small business transactions.

There are basically two types of accounting systems that you can use: cash accounting or accrual accounting. How transactions are recorded in each of these systems, what are the benefits offered by the two systems and which one should you use for your small business, this post discusses it all.

What is Cash Accounting System and How Does It Work?

Let’s start with the simpler one – the cash accounting system.

The cash system of accounting is based on cash flow. In this system of accounting, transactions are recorded when cash exchanges hand. So you’ll record income when you receive a payment through cash, card or check. Similarly, you’ll record an expense once you pay it. Cash accounting system is ideal for simpler businesses and gives you a better idea of your cash flow.

What is Accrual Accounting System and How Does It Work?

Unlike cash accounting system, where you record transaction at the time when cash exchanges hand, in accrual accounting system you record a transaction at the time when it happens. Actual payment may be paid later.

For example, if your company sells a product to a customer in August, but isn’t paid until September. According to accrual accounting system, you’ll record the transaction in August. Remaining entries will be made in September once you receive the payment.

Accrual accounting system uses double-entry bookkeeping. It is ideal for more complicated businesses or businesses who sell or purchase on credit. An accrual accounting system gives you a better picture of your expenses and income.

Which Accounting Method Should You Choose?

Most businesses use accrual method of accounting, since most businesses sell or purchase on credit. If you sell or purchase on credit too, you should also use the accrual method of accounting. If you only deal in cash sales, you should use cash accounting system to record your business consulting services.

When you file for business tax returns for the first time, the IRS requires you to mention the type of accounting method you use in your small business. Make sure you’re clear about the type of system you want to use and follow the good practices to smoothly maintain your accounts.

Do you need any help with accounting for small business?

Feel free to reach out, our Deerfield Beach accounting experts will be happy to serve you.

For further reading: Accounting Basics: A Guide to Fixed and Variable Costs