An accounting method where income and expenses are recorded only when cash is actually received or paid—commonly used by small businesses for its simplicity.
What is Cash Basis Accounting?
Cash Basis Accounting is one of the two primary accounting methods used in the United States. Under this method, income is recorded only when it is received, and expenses are recorded only when they are paid. This approach contrasts with accrual accounting, which records income when it is earned and expenses when they are incurred, regardless of when cash changes hands.
Understanding cash basis accounting is especially useful if your business is early-stage, low-volume, or does not carry inventory—because it’s simple, straightforward, and accepted by the IRS for many small businesses.
For example, if your company invoices a client in March but doesn’t receive payment until May, the revenue would be recorded in May under the cash basis method. Similarly, if you receive a bill in June but pay it in July, the expense is recorded in July. This method reflects the actual cash movement and can provide a clearer picture of how much money the business truly has on hand at any moment.
Cash basis accounting is typically allowed for businesses with average annual gross receipts under $25 million (as defined by the IRS), and it is particularly popular among service-based businesses, freelancers, consultants, and early-stage startups without complex accounting needs.
From a compliance standpoint, businesses using the cash method file their tax returns based on this same timing—only reporting income when it hits the account and deducting expenses when paid. This can sometimes offer tax advantages by allowing businesses to defer income or accelerate deductions based on payment timing.
However, cash basis accounting may not be suitable for businesses that carry inventory or need detailed financial insight over long sales cycles. For these cases, accrual accounting is often required and preferred by investors or lenders. Still, many businesses start with cash basis accounting and switch to accrual later as they grow.
In summary, cash basis accounting is a simple, IRS-approved method that tracks income and expenses based on real-time cash movement. For non-U.S. founders of U.S. companies, it offers an easy way to manage finances in the early stages of the business, with fewer reporting complexities—while still keeping you compliant with U.S. tax laws.
