Accrual Basis

Accrual Basis Definition

Accrual basis accounting records revenue when it's earned and expenses when they're incurred — regardless of when cash actually changes hands. It's the opposite of cash basis, where you only record transactions when money moves. Most businesses over $25 million in revenue are required to use accrual basis, but many smaller businesses choose it for a more accurate financial picture.

Accrual Basis in Practice — Example

You own a small marketing agency. In March, you complete a $10,000 project for a client and invoice them Net 30. You also receive a $3,000 bill from a subcontractor for design work done in March. Under accrual basis, you record the $10,000 as March revenue and the $3,000 as a March expense — even though your client doesn't pay until April and you don't pay the subcontractor until April either. Your March P&L shows the real economic activity of that month.

Why Accrual Basis Matters for Your Books

Accrual basis gives you a much more accurate picture of your business's financial health at any point in time. With cash basis, a great month could look terrible because your clients haven't paid yet, or a bad month could look great because old receivables finally came in. Accrual smooths that out and ties revenue to the period it was earned.

This matters enormously for decision-making. If you're evaluating whether to hire, buy equipment, or take on a new project, you need to know your true profitability — not just your cash position. Accrual basis tells you if the work you're doing is actually generating profit, separate from timing.

The downside? Complexity. Accrual basis requires tracking receivables, payables, prepaid expenses, deferred revenue, and more. It's more work for your bookkeeper, but the payoff is financial statements that banks, investors, and the IRS take seriously.

How Accrual Basis Shows Up in QuickBooks

In QBO, set your accounting method under Settings → Advanced → Accounting. QBO supports both accrual and cash basis, and you can toggle reports between the two. However, your day-to-day transaction entry (invoices, bills, journal entries) should follow your chosen method consistently. The Profit and Loss report lets you switch between accrual and cash basis views using the dropdown at the top.

Common Mistakes

Mixing cash and accrual methods. Pick one and stick with it. Recording some transactions on cash basis and others on accrual creates unreliable financials.

Forgetting adjusting entries at month-end. Accrual basis requires entries for accrued expenses, prepaid expenses, and deferred revenue at each period close.

Not understanding tax implications. On accrual basis, you may owe taxes on revenue you haven't collected yet. Plan accordingly.

FAQ

Q: Which is better — cash basis or accrual basis? A: It depends on your business size and complexity. Cash basis is simpler and works well for small service businesses. Accrual basis is more accurate and often required for businesses with inventory, investors, or revenue over $25M.

Q: Can I switch from cash to accrual basis? A: Yes, but it requires IRS Form 3115 (Change in Accounting Method) and can be complex. Talk to your CPA before making the switch.

Related Terms

Cash Basis

Basis of Accounting

Accrued Expenses

Accrued Revenue

Adjusting Entry

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