As a business owner, you may have heard the terms "Cash basis accounting" or "Accruals accounting" thrown around. But what do they mean? And which method do we use here at Ember?
Cash Basis Accounting
Cash basis accounting is the simpler of the two methods, and is often used by small businesses. With cash basis accounting, revenue and expenses are recognized only when cash changes hands. For example, if you receive payment from a customer, that revenue is recognized when you actually receive the payment. Similarly, if you pay a supplier, that expense is recognized when you actually pay the supplier.
The main advantage of cash basis accounting is its simplicity. It is easy to understand and maintain, and requires less bookkeeping than accrual accounting. However, cash basis accounting may not accurately reflect the financial health of your business, as it does not take into account any transactions that have not yet been paid.
Accrual accounting is a more complex method of accounting, and is often used by larger businesses. With accrual accounting, revenue and expenses are recognized when they are earned or incurred, regardless of when cash changes hands. For example, if you make a sale to a customer on credit, the revenue from that sale is recognized when the sale is made, not when the payment is received. Similarly, if you receive a bill from a supplier, the expense is recognized when you receive the bill, not when you pay it.
The main advantage of accrual accounting is that it provides a more accurate picture of your business's financial health. It takes into account all transactions, whether or not they have been paid, which can help you make better decisions about your business's future. However, accrual accounting requires more bookkeeping than cash basis accounting, and can be more difficult to understand and maintain.
Which does Ember use?
Here at Ember we use Accruals basis accounting for your business if you are a LTD company. There is no choice as a Ltd company and you have to prepare your accounts on an accruals basis.
If you're a sole trader you can choose whether you want to use cash basis or accruals up to a turnover of £150,000. Due to the advantages of the cash basis, Ember is set up on the cash basis for sole traders.