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There are two main types of accounting, cash accounting and accrual accounting. The former is used mainly in private businesses, and small ones at that. The latter is the basis for generally accepted accounting principles and is therefore much more common in business, especially larger businesses. This paper will explain some of the differences between these two forms.
The differences between cash accounting and accrual accounting stem from philosophical differences. Cash accounting is focused on the timing of the cash movements, whereas accrual accounting is focused on the timing of the transactions. Examples of the differences between the two always come back to this fundamental distinction.
To illustrate the difference, consider if a company makes widgets, and sells to a customer $1000 worth of widgets on the 20th of December. The customer has credit, and pays for the widgets on the 10th of January. Under cash accounting, that sale would be recorded on the 10th, when the payment was received. The production of the widgets would have been in the previous fiscal year, so cash accounting would show at the end of the year that the widgets were no longer in inventory but there was no cash payment. This would not look good for the company but more importantly the financial statement would not be an accurate reflection of the company's business.
With accrual accounting, that same transaction would more accurately reflect the business. Accrual accounting relies on the use of non-cash accounts to track transactions. The sale of the widgets initially would allow for the sale to be recorded when the widgets leave inventory. The cash account is not affected, as the sale would go to accounts receivable. Thus, the old year's statement would show the sale to counterbalance the fact that the goods are no longer in inventory. It would also reflect the fact that the firm has yet to receive cash for the sale, but is expecting some. Then the payment is made in January, the revenue side of the ledger does not change. Only the accounts receivable, which is reduced, and the cash, which is increased, are changed.
Thus accrual accounting is a more sophisticated method that more accurately reflects the business. Of course, in some…[continue]
"Commercial Accounting Generally Accepted Accounting Principles Generally Prescribe Accrual Basis Accounting Cash Basis Describe Bases Accounting Explain Differences" (2012, April 17) Retrieved July 7, 2015, from http://www.paperdue.com/essay/commercial-accounting-generally-accepted-79309
"Commercial Accounting Generally Accepted Accounting Principles Generally Prescribe Accrual Basis Accounting Cash Basis Describe Bases Accounting Explain Differences" 17 April 2012. Web.7 July. 2015. <http://www.paperdue.com/essay/commercial-accounting-generally-accepted-79309>
"Commercial Accounting Generally Accepted Accounting Principles Generally Prescribe Accrual Basis Accounting Cash Basis Describe Bases Accounting Explain Differences", 17 April 2012, Accessed.7 July. 2015, http://www.paperdue.com/essay/commercial-accounting-generally-accepted-79309