The difference between cash accounting and accrual accounting is all about how you record revenue coming in and paying out expenses. Choosing one over the other will depend on factors like the size of your law firm or your record-keeping preference. Let’s take a look at what these accounting methods mean and their pros and cons.
What is Cash Accounting?
Cash basis accounting is when revenue is recorded when cash comes in, and expenses are recorded when cash goes out. Small and solo law firms like to use this method because of its simplicity and ease. Because you only record when cash is received or paid, it’s well known for being straightforward and easy to track. Plus, taxes are not paid on any money that you haven’t yet received. However, this method isn’t always accurate when predicting the growth of a law firm. For instance, cash basis accounting might overstate the amount of cash a law firm has on hand when it could be losing money.
What is Accrual Accounting?
Accrual basis accounting is when revenue and expenses are recorded before cash exchanges hands. Accrual accounting is defined by the expectation that the revenue or expense will happen. For instance, money is recorded as revenue when an invoice is sent out but hasn’t yet been paid. This method can make it a bit difficult to keep track of cash flow and you will pay taxes on money that you haven’t received. However, using an accrual accounting method can help portray a more accurate prediction of the health of a law firm long-term.