Cash-basis accounting posts income and expenses solely based on cash inflows and cash outflows—in other words, when cash exchanges hands. Accrual-basis accounting records revenues when earned and expenses when they occur, and not when cash exchanges hands.
Here are two practice questions to show the difference.
Practice questions
Use the following information to answer the questions:
Al LaMode Ice Cream Company produces high-quality ice cream that is distributed to shops in resort areas. On July 1, the company purchased the raw materials to make the ice cream. On July 15, the process was complete, and the product was stored in the freezer ready to ship to customers. On July 31, Ken and Mary’s Ice Cream Shop ordered 200 pounds of ice cream. On August 1, Al LaMode delivered the ice cream to Ken and Mary’s Ice Cream Shop. Ken and Mary paid Al LaMode on August 10. Ken and Mary sold all the ice cream between August 5 and August 12.
If it uses accrual‐basis accounting, when will Al LaMode record the revenue from the sale to Ken and Mary?
If it uses cash‐basis accounting, when will Al LaMode record the revenue from the sale to Ken and Mary?
Answers and explanations
August 1
Under accrual-basis accounting, revenues are recorded when the goods or services are delivered to the customer, regardless of whether the customer has paid for them. This distinguishes accrual-basis accounting from cash-basis accounting, where the revenues are not recorded until the customer pays for the goods or services. Although the company received an order for the ice cream on July 31, delivery didn’t happen until August 1.
August 10
Cash-basis accounting records revenue when the cash is received from the customer.
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