What is Cash Method Accounting?

The cash method of accounting is the simplest way to keep books: you record income when cash, a check or an electronic payment is received, and expenses when you pay them. Unpaid invoices and unpaid bills do not appear in the profit and loss until money moves.

Example

A contractor completes a job in December and is paid in January. On the cash method, the income belongs to January. If the contractor buys materials on a credit card in December, the expense generally counts in December, because charging to a credit card is treated as payment.

Constructive receipt

Income counts as received when it is credited to your account or made available to you without restriction, even if you have not collected it. A check you received in December but did not deposit until January is generally December income. See constructive receipt.

Who can use it

The IRS explains in Publication 538 which taxpayers may use the cash method. Many small businesses qualify, though there are limits for some corporations, partnerships with corporate partners and businesses above a gross receipts threshold.

Limitations

Cash-method reports can make a profitable month look poor if customers pay late, and hide large unpaid bills. Many owners use cash-method tax returns with accrual-style management reports. Compare with accrual accounting and our guide to cash vs accrual accounting.

Related terms

• Accrual Accounting: Accrual accounting records income when it is earned and expenses when they are incurred, regardless of when cash moves.
• Constructive Receipt: Constructive receipt means income is taxable when it is made available to you without restriction, even if you have not taken possession of it.

Browse more definitions in the small business glossary.