Cash accounting records income when you receive payment and expenses when you pay them — simple and tax-friendly for most small businesses. Accrual accounting records income when you earn it and expenses when you incur them, giving a truer picture of profitability. Most small businesses use cash; the IRS requires accrual once average gross receipts exceed about $32 million.
Here's a scenario. On December 28, you finish a $12,000 project and send the invoice. The client pays you on January 15. Question: which year's income is that $12,000?
If you said "the year I got paid" — congratulations, you think like a cash-basis accountant. If you said "the year I did the work" — welcome to accrual.
This isn't a trick question. It's the single most important distinction in small business accounting, and the method you choose affects your taxes, your financial statements, and how you understand your own business. Let's break it down.
Cash accounting: money in, money out
Cash-basis accounting is beautifully simple: you record income when cash actually hits your account, and expenses when cash actually leaves it.
- Send an invoice in December, get paid in January? That's January income.
- Buy supplies on your credit card in December, pay the card in January? That's a January expense.
- That $12,000 project? Income in the new year — which, by the way, can be a legitimate tax timing advantage.
Why businesses love it: It's intuitive. Your books match your bank account. No receivables to track, no payables aging — just what's actually in and out. And for tax purposes, you have some control over timing: need to lower this year's income? Delay invoicing until January. Want more deductions? Pay bills in December.
The downside: It can lie to you. A month where you collected a lot of old invoices looks amazing; a month where you paid a pile of bills looks terrible — even if the underlying business did exactly the same amount of work. Cash accounting tells you where your money went, not how your business performed.
Accrual accounting: earned and incurred
Accrual accounting records income when you *earn* it and expenses when you *incur* them — regardless of when cash changes hands.
- That $12,000 invoice sent December 28? December income. The January payment just settles the receivable.
- Supplies bought on credit in December? December expense, even though you pay in January.
- Your books now include accounts receivable (money owed to you) and accounts payable (money you owe) — a fuller picture of your financial position.
Why businesses love it: It matches income to the effort that produced it. Your profit and loss statement actually reflects how the business performed in a given period, which makes trends meaningful and comparisons honest. Investors, lenders, and buyers all prefer accrual statements — it's the language of serious finance.
The downside: Complexity, and one particularly painful quirk — you can owe tax on income you haven't received yet. Earned $50,000 in December but the client pays in February? The IRS still wants its cut for December's tax year. Cash flow and profit can diverge sharply, and you need to manage both.
Side-by-side: the $12,000 invoice
| | Cash basis | Accrual basis |
|---|---|---|
| Income recorded | January (when paid) | December (when earned) |
| Tax year | New year | Old year |
| What the P&L shows for December | Nothing from this job | $12,000 revenue |
| Complexity | Low | Higher |
Same job, same money — completely different financial picture depending on the method.
What does the IRS say?
Here's where choice meets rules. Most small businesses — sole proprietors, partnerships, S corporations — can generally choose either method when they start out.
But there's a ceiling. Under IRS Section 448(c), once a business's average annual gross receipts over the prior three years exceed an inflation-adjusted threshold (about $32 million for 2026), the cash method is off the table — accrual becomes mandatory. Certain businesses, like those carrying significant inventory, may also be required to use accrual regardless.
Translation: if you're reading this blog, you almost certainly get to choose. But choose deliberately, because switching later requires IRS permission (via Form 3115) and isn't something you want to do casually.
How to tell which method you’re using now
Not sure? Check your QuickBooks Desktop settings: Edit > Preferences > Reports & Graphs > Company Preferences shows your summary report basis. Or look at your balance sheet — if it shows accounts receivable and accounts payable with balances, you're likely on accrual. No AR/AP? Probably cash.
So which should you choose?
Cash is usually right if: you're a freelancer, consultant, contractor, or small service business with straightforward finances. You want simplicity, your books to match your bank balance, and some control over tax timing. This describes the majority of small businesses.
Accrual is usually right if: you carry significant inventory, you extend a lot of credit (or receive it), you're seeking investors or a business loan, or you're growing toward the kind of scale where accrual becomes mandatory anyway. It gives you — and anyone evaluating your business — the truest picture.
The hybrid reality: Many businesses keep their books on accrual for management purposes but file taxes on cash (or vice versa). That's allowed in some situations, but it adds complexity — talk to your tax preparer before going down this road.
One more practical note: whichever method you choose, consistency matters. Switching back and forth year to year to game your taxes is exactly the kind of thing that draws IRS attention. Pick the method that fits your business, and stick with it — [keeping clean, consistent books makes everything from month-end to tax season easier](/close-your-books-in-quickbooks-desktop/).
Conclusion!
That brings us to the end of this guide on cash vs accrual accounting. We hope the comparison above helped you understand how each method works and which one fits your business. If you run into any difficulty choosing or setting up the right method in QuickBooks, consider consulting a qualified and experienced QuickBooks professional for further assistance.
FAQs
Can I switch from cash to accrual later?
Yes, but you need IRS consent by filing Form 3115, and the switch usually requires a one-time income adjustment (called a Section 481(a) adjustment) to avoid double-counting or skipping income. It's very doable — just don't do it without professional guidance.
Does QuickBooks Desktop support both methods?
Yes. You can generate reports on either basis regardless of how you enter transactions, which is handy for comparing. But your official method — the one on your tax return — is what counts.
Which method do most small businesses use?
Cash, by a wide margin. It's simpler, matches how most owners think about money, and works perfectly well until the business gets complex enough to need accrual's precision.
Can cash accounting hurt me when applying for a loan?
Sometimes. Lenders often want accrual-basis statements because they show receivables and payables — a fuller picture of financial health. If you're borrowing, ask your lender what they prefer; you may need accrual statements even if you file taxes on cash.
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