Basis of accounting: cash vs accrual explained

Published Thursday 23 July 2026

Table of contents

• What is a basis of accounting?
• What is cash basis accounting?
• What is accrual basis accounting?
• Cash vs accrual accounting: key differences
• Pros and cons of each accounting method
• How to choose the right accounting method
• How does your accounting basis affect your BAS?
• What is a hybrid basis of accounting?
• Simplify your accounting with Xero
• FAQs on basis of accounting

Key takeaways

• Your basis of accounting determines when you recognise income and expenses, and it directly affects your cash flow visibility, tax reporting, and Business Activity Statement (BAS) obligations.
• Cash basis accounting records transactions when money changes hands, while accrual basis accounting records them when they're earned or incurred, regardless of payment timing.
• Most Australian small businesses can choose either method, but businesses with an annual turnover of $10 million or more must use accrual accounting for GST purposes.
• Choosing the right method depends on your business size, complexity, and reporting needs; your accountant or BAS agent can help you decide.

What is a basis of accounting?

Your basis of accounting is the set of rules that decides when you formally count a sale as income or a purchase as an expense. It shapes how your financial records look at any given point in time and affects everything from your profit figures to your tax obligations.

There are 2 main methods: cash basis and accrual basis. Each one records the same transactions, but at different points in time. A lot can happen between issuing an invoice and receiving payment, so the method you choose can significantly change how your business's financial position appears on paper.

For Australian small business owners, understanding your basis of accounting is especially relevant because it affects how you report Goods and Services Tax (GST) on your BAS, how you track cash flow, and how you plan for tax time.

What is cash basis accounting?

Cash basis accounting is the simpler of the 2 methods. It records income when you actually receive payment and expenses when you actually pay them.

Under this method, if you send an invoice in March but your customer doesn't pay until April, you'd record that income in April. The same logic applies to your expenses: a supplier bill dated in June but paid in July counts as a July expense.

This approach gives you a clear, real-time view of how much cash your business has available right now. It's a popular choice for sole traders, freelancers, and smaller businesses because it's straightforward and closely mirrors your bank account balance.

How cash basis accounting works in practice

Say you run a landscaping business and complete a $2,000 job in September. You invoice your client on 30 September, but they pay on 15 October. Under cash basis accounting, you'd record that $2,000 as income in October, when the money hits your account.

If you also bought $500 worth of supplies in September but paid for them with a credit card that's settled in October, that expense would also be recorded in October.

What is accrual basis accounting?

Accrual basis accounting records income when it's earned and expenses when they're incurred, regardless of when cash actually changes hands. This method focuses on the economic activity itself rather than the movement of money.

Using the same example, if you complete a landscaping job in September, you'd record that income in September, even if your client doesn't pay until October. Your September supplies would also be recorded as a September expense, even if your credit card payment isn't due until October.

This method gives you a more complete picture of your business's financial health over time. It's particularly useful if your business deals with invoices, credit terms, or inventory, because it shows you what you've earned and what you owe, not just what's in the bank.

How accrual basis accounting works in practice

Imagine you run a small graphic design studio. In November, you complete 3 projects worth a combined $9,000. You've invoiced all 3 clients, but only 1 has paid by 30 November.

Under accrual accounting, your November records show $9,000 in income because all 3 jobs were completed and invoiced that month. Your financial statements reflect the full value of work done, giving you an accurate view of your profitability for the month.

Cash vs accrual accounting: key differences

Both methods record the same transactions over time, but the timing of when those transactions appear in your books creates some significant differences. Here's how they compare across the areas that matter most to small business owners.

When income is recognised:

• Cash basis: when payment is received
• Accrual basis: when income is earned (for example, when a job is completed or an invoice is issued)

When expenses are recognised:

• Cash basis: when payment is made
• Accrual basis: when the expense is incurred, regardless of payment date

Cash flow visibility:

• Cash basis: gives a real-time view of available cash
• Accrual basis: may show income you haven't collected yet, so it doesn't reflect your actual bank balance

Complexity:

• Cash basis: simpler to maintain; closely mirrors bank transactions
• Accrual basis: more complex; requires tracking accounts receivable and accounts payable

Best suited for:

• Cash basis: sole traders, freelancers, and smaller businesses with straightforward transactions
• Accrual basis: growing businesses, those with inventory, or businesses that invoice on credit terms

Pros and cons of each accounting method

Each accounting method has trade-offs. The right choice depends on your business's size, complexity, and what matters most to you when reviewing your finances.

Cash basis accounting pros

Cash basis accounting has several advantages that make it appealing for smaller or simpler businesses.

• Simple to set up and maintain, with less bookkeeping required.
• Gives you a clear picture of how much cash you actually have on hand.
• Makes it easier to manage cash flow because income is only recorded when received.
• Can be easier to manage at tax time because you're only taxed on money you've actually received.

Cash basis accounting cons

There are some limitations to be aware of if you use cash basis accounting.

• Doesn't show money owed to you or money you owe, which can give an incomplete financial picture.
• Can make it harder to plan ahead because outstanding invoices aren't visible in your records.
• May not be accepted by lenders or investors who want accrual-based financial statements.
• Not suitable for businesses with annual turnover of $10 million or more, which must use accrual accounting for GST.

Accrual basis accounting pros

Accrual accounting offers benefits that become more valuable as your business grows.

• Provides a more accurate view of profitability by matching income with the expenses incurred to earn it.
• Makes it easier to spot trends and plan for the future because your records reflect all committed transactions.
• Preferred by lenders, investors, and potential buyers because it follows standard accounting principles.
• Required for businesses with $10 million or more in annual turnover for GST reporting purposes.

Accrual basis accounting cons

Accrual accounting also has some drawbacks worth considering.

• More complex to maintain and typically requires accounting software or professional support.
• Can give a misleading sense of available cash, because recorded income may not have been received yet.
• Requires more diligent tracking of accounts receivable and accounts payable.
• May result in paying tax on income you haven't yet collected.

How to choose the right accounting method

Choosing between cash and accrual accounting comes down to your business's size, complexity, and goals. There's no one-size-fits-all answer, but a few practical factors can guide your decision.

Consider your business size and structure

If you're a sole trader or running a small business with straightforward transactions, cash basis accounting is often the simplest option. It keeps your bookkeeping manageable and your records closely aligned with your bank balance.

If your business is growing, carries inventory, or regularly invoices clients on credit terms, accrual accounting gives you a clearer picture of where your business stands financially.

Check your Australian Taxation Office (ATO) obligations

Most Australian small businesses can choose either method. However, if your business has a GST turnover of $10 million or more, the ATO requires you to report GST on an accrual basis. If you're below that threshold, you can choose the method that works best for you.

Your choice also affects how you report GST on your BAS, so it's worth discussing with your accountant or BAS agent before making a decision.

Think about your reporting needs

If you're applying for a business loan, seeking investors, or planning to sell your business, accrual-based financial statements are generally expected. They give a fuller picture of your business's performance and financial position.

For day-to-day cash flow management, cash basis accounting can be more practical because it reflects exactly what's in your account.

Talk to your accountant

Your accountant or bookkeeper can help you weigh up the pros and cons based on your specific circumstances. They can also help you switch methods if your needs change as your business grows.

How does your accounting basis affect your BAS?

Your basis of accounting directly affects how you report GST on your BAS. The method you use determines when you include sales and purchases in your BAS calculations, which can change how much GST you owe or are owed in any given period.

GST reporting on a cash basis

If you report GST on a cash basis, you include GST on sales when you receive payment and claim GST credits on purchases when you pay for them. This means your BAS reflects only the transactions where money has actually changed hands during the reporting period.

This can be helpful for cash flow because you don't owe GST on invoices your customers haven't paid yet.

GST reporting on an accrual basis

If you report GST on an accrual basis, you include GST on sales when you issue an invoice and claim GST credits when you receive a supplier bill. This means your BAS may include GST on income you haven't collected yet.

While this gives a more complete view of your GST position, it can create cash flow pressure if you have outstanding invoices at the time your BAS is due.

Pay As You Go (PAYG) instalments

Your accounting basis can also affect your PAYG instalments. If you use the instalment amount method, your accounting basis determines the income figure you report, which in turn affects your instalment amount. Your accountant or BAS agent can advise on how your chosen method interacts with your PAYG obligations.

What is a hybrid basis of accounting?

A hybrid (or modified) basis of accounting combines elements of both cash and accrual methods. Under this approach, some types of transactions are recorded on a cash basis while others use accrual accounting.

For example, a business might use cash basis accounting for day-to-day income and expenses but switch to accrual accounting for tracking inventory or long-term contracts. This can give you the simplicity of cash accounting for routine transactions while still capturing the full picture for more complex areas.

Hybrid accounting can be useful in certain situations, but it adds complexity to your record-keeping and reporting. The ATO has specific rules about how and when you can mix methods, so this approach should only be set up with guidance from a qualified accountant or tax professional.

Simplify your accounting with Xero

Whatever accounting method you choose, keeping your books accurate and up to date doesn't have to be a chore. Xero's cloud accounting software automates bank reconciliation, tracks invoices, and gives you real-time visibility into your cash flow, so you can focus on running your business instead of managing your books.

With features like automatic bank feeds, invoice reminders, and built-in BAS reporting, Xero makes it straightforward to stay on top of your finances regardless of whether you use cash or accrual accounting. Get one month free.

FAQs on basis of accounting

Here are some frequently asked questions about basis of accounting.

What is the difference between cash and accrual accounting?

Cash accounting records transactions when money is received or paid. Accrual accounting records them when they're earned or incurred, regardless of when payment happens.

Which accounting method should a small business use in Australia?

Most Australian small businesses can choose either method. Cash basis is simpler for smaller operations, while accrual gives a more complete financial picture for growing businesses.

Can you change your accounting method?

Yes, you can switch methods, but it's best to do so at the start of a new financial year. Talk to your accountant to ensure the transition is handled correctly for your BAS and tax reporting.

Is accrual accounting required in Australia?

Businesses with a GST turnover of $10 million or more must use accrual accounting for GST reporting. Below that threshold, you can choose either method.

How does your accounting basis affect BAS reporting?

On a cash basis, you report GST when money changes hands. On an accrual basis, you report GST when invoices are issued or received. This affects how much GST you owe in each BAS period.