Accrual Basis Accounting

What Is Accrual Basis Accounting?
As the meaning of the word "accrual", natural growth or increase, accrual basis accounting has four crucial parts, which are time, recognition, liabilities, and allocation. Accrual basis accounting is the better choice of accounting methods, it reflects the truthful and complete business activities. 

Time
Not every transactions and event are both inflows and outflows at the same time, just like the time you use your credit card, you don't have outflows of cash at that moment, but have liability to pay the bill a few days later. By the time you made the payment, you are already in the next consumption period. The insurance company does not complete its obligation unit the contract expires. 

Recognition
Since accrual accounting is reflective of measuring revenues as earned and expenses as incurred, both of the two conditions, which are exchange transaction and earning process is completed, must be met, even though, you have got the cash in advance or provided services ahead of inflow of cash.

Liabilities
Similar to the notion of debit and credit rules, after you get the cash, you have the obligation to offer your products or services, that's one of the core concepts of accrual basis accounting. You don't just simply earn the money after you sold an insurance contract, instead, you have the obligation to take the risk for the client.

Allocate
Instead of just picking up the dates of inflows and events, to reflect the activities, some expenses and revenues are allocated to different periods. Because the inflows of cash do not actually mean the process is done and you don't have any obligation to provide outflows of anything. 

What Is Cash Basis Accounting? 
Just like the term "cash basis", the records are focus on the inflows and outflows of cash, transactions, and events. Revenues are confirmed while cash is flow in, whatever it does match the rule of sold, delivered or earning process being complete or not, and it does not allocate to different periods or reports. 

What's The Difference?
1.Allocate or not
To reflect the more detailed activities, some expenses and revenues need to be separated to different periods and shown on multiple reports.

2. Recognition rules
Accrual basis accounting has its own rules to recognize expenses and revenues in different periods. This is the preview rules for deciding how allocates are being set on procedures, considering not every event should be allocated.

3. Reflect obligations or not
Every business income does not just grow on trees, It involved the obligations to provide or offer something, besides, you deserve some benefits after you provide goods or services. When you sold a car with a 3-month contract, you have the obligation to provide what you needed to offer, not only confirm the inflows of revenues, but also the liabilities of the contract, although it may occur at different time points.

4. Collecting periods.
After recognizing revenues and expenses, you must collect the data of different periods to allocate it. Prepaid insurance has the right for 3 months, so it allocated to 3 months. 

Why Not Just Use Cash Basis?
This is a question that being frequently asked. Why not just use our chequebook records? If we take a closer look at the financial reports, we shall find out that the cash basis accounting is not a well-balanced choice. Assets = Liabilities + Equity. It's a "balance" of both two sides, not just look at how much inflows you made in any particular periods. The income must come from somewhere, and the outflows must have its reasons to go anywhere. 

To compare the difference, just look at your credit card bills and record your payments. You will soon find that you may have a $1,000 outflow to the bank, but rarely outflows of the others. When you purchasing something, you don't have any outflows of cash, if you forget to record your liabilities to pay it later.