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Accrual Basis Accounting

Updated: Sep 12, 2022

Accounting Acer Series 5

๐ƒ๐ˆ๐ƒ ๐˜๐Ž๐” ๐Š๐๐Ž๐–

Accrual Basis Accounting is one of the best method to provide a more accurate profile of the companyโ€™s revenue and expenses?

Are you a business owner who can't sleep well thinking of how messy accounting is every month?

๐—™๐—œ๐—ฅ๐—ฆ๐—ง If you have not used this method... It is normal because not many businesses in Malaysia uses this as it doesn't suit to many small businesses.

๐—ฆ๐—˜๐—–๐—ข๐—ก๐—— Anyone can use this but not everyone benefits from it. WHY? - Small Businesses uses cash basis accounting to track the in and out cash flows - Accrual basis accounting doesn't explicitly track cash flows - It requires using the direct / indirect method - You have to make estimates & assumptions

Which isn't the most suitable for small businesses

๐—ง๐—›๐—œ๐—ฅ๐—— Most business and startups tend to start off with the Cash Method of Accounting because it is easier to apply to track cash flow.

So when one day your business starts to grow, you should make the switch to ACCRUAL BASIS of ACCOUNTING method instead.

What is Accrual Basis (Accrual Concept)?

It is a concept of recording revenues when earned and expenses as incurred. The accrual basis requires the use of allowances for sales returns, bad debts, and inventory obsolescence, which are in advance of such items occurring. For e.g.: record a revenue as soon as the related invoice is issued to the customer.

The matching of revenues and associated expenses under the accrual basis allows for the full impact of a business transaction to be visible in a single reporting period. Additionally, auditors can only certify financial statements if they were created using the accrual basis of accounting.

Accrual basis can also be called matching concept because of the act of matching the expenses against the revenue. For example: the gained in a period of 12 months should also match the expenses incurred in the same 12 months.

Let see an illustration:

Letโ€™s say ABC Consultancy Services Sdn Bhd provided tax consultancy services to XYZ Sdn Bhd in January 2022.

So, its records RM 5,000 in revenue after concluding the services even though the cash payment will be made in the following month. The sale is then recorded as account receivable (in current assets) of the balance sheet.

Since the accrual basis involves considerable understanding of accounting systems and particularly of reversing journal entries, a small business may find it challenging to implement it. Thus, it may be more sensible for a small business to begin with the less complex cash basis of accounting and then transition to the accrual basis after it has grown.

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