BASIS OF ACCOUNTING

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CHAPTER: 4   

(BASIS OF ACCOUNTING)

 

Cash basis of accounting:  this is a system in which accounting entries are recorded only when cash is received or paid, entry is not recorded when a payment or receipt is merely due. It means revenue is recognised only on receipt of cash.

Advantages of cash basis

1)      It is very simple as adjustment entries are not required.

2)      This basis of accounting is most suitable for those enterprises where most of the transactions are on cash basis.

Disadvantages of cash basis

1)      It does not follow the matching principle of accounting.

2)      It does not five true and fair view of profit and loss and the financial position of an enterprise because it ignores outstanding and prepaid expenses and accrued income and income received in advance.

Accrual basis of accounting:  under accrual basis of accounting, income if earned or accrued during the period whether received or not become part of the total income of that period, for example, credit sales in included in the total sales of the period irrespective of the fact when cash is received.

Advantages of accrual basis of accounting

1)      It is more scientific as compared to cash basis of accounting and hence it is preferred by accountants.

2)      This basis of accounting shows a complete picture of financial transactions of the business as it takes into the account the effect of all transactions relating to a period as well as adjustments like outstanding expenses, prepaid expenses, income received in advance etc.

3)      This system discloses correct profit loss for a particular period and also exhibits true financial position of the business on a particular day.

Disadvantages

1)      This system is not simple as compared to cash basis of accounting.

2)      The accounting process is too elaborate.

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