Understanding cash principle – Cash accounting refers to one of the main accounting methods, which recognizes expenses or income when cash is paid or received. This one method is of course different from accrual accounting which records income or expenses when both occur, regardless of whether cash is received/paid at that time or not.
Then, what exactly is meant by the principle of cash? On this occasion, we will discuss more about cash principles, see this review until it’s finished, Matobers.
Introduction to Accounting 1
Basic Definition of Cash
The cash principle is defined by the Financial Services Authority or OJK as the recording of expenditures or receipts in a cash transaction, regardless of date and time.
More clearly, spending transactions in cash are only recognized when there is income paid in cash or bank funds. Likewise with receipts, which are only recognized after receipt in the form of cash or bank.
In addition, the cash basis is also known as cash basis or cash basis, which is a process of recording accounting transactions when issuing or receiving cash funds. This expense or income transaction will only be recorded in the income statement when income (cash) is received and expenses (cash) are paid.
That way, income and expense transactions will only be reported when there is involvement of cash in and cash out. Under the cash principle, new revenue will be recognized when a consumer pays a predetermined amount of money or cash to the company, not when a new consumer receives goods or services.
When transactions are recorded in cash, they affect the company’s books based on an exchange of considerations; Therefore, cash accounting is less accurate than accrual accounting in the short term.
The Principle of Cash in Buying and Selling Land (Customary Law)
National land law is customary law, based on Article 5 of Law Number 5 of 1960 concerning Basic Agrarian Regulations. Thus, the implementation of buying and selling land nationally also adheres to a system of buying and selling land in accordance with customary law.
According to customary law, the definition of buying and selling land is the transfer of rights that fulfill the cash and clear principles. The following is the principle of cash according to customary law:
The principle of cash is the transfer of rights and the payment of land prices at the same time. Not only that, this principle also means that payments are made until they are paid off, according to the price agreement stated in the deed of sale and purchase.
The point of cash, is not that payment and settlement of land prices must be made immediately. However, what this means is that the payment is made according to the agreed price even though a payment is made using the installment method, the cash principle is still fulfilled.
Basic Cash Concept
The following is the basic concept of cash, which Matobers needs to know
1. Revenue Recognition
Revenue recognition under the cash basis occurs when the company has received payment in cash or in cash. In this principle, there is no time to collect debts. So, you can write off receivables directly and there is no estimate of bad debts.
2. Cost Recognition
Under the cash principle, the concept of cost recognition will be made when cash payments have been made. Fees that have been recognized at the time of the transaction means that the payment has been received.
Fundamental Cash Method
There is an acknowledgment of the process of cash transactions that have been paid for shopping, then the income and costs received are the cash basis method or the cash basis. For example, companies enter into agreements with donor organizations. Recording of product sales will not be made if the money has not been received by the company.
Even so, the transaction will be recorded in the receipts journal if the donor organization has made a payment of funds. The organization will buy office stationery or ATK in cash, then the accountant will make a disbursement journal.
Advantages of Basic Cash
The following are some of the advantages of the cash basis or cash basis method:
- Recording spending, financing, and income as a function of the cash basis.
- Even if an expense has been incurred, the expense will not be recognized unless a typical payment has been made. This is done in order to avoid causing a reduction in the calculation of income.
- When receiving cash, recognition of new revenue will occur. Thus, it shows the transparency of the actual position.
- The financial position is the only thing the financial statements will show.
- There is no risk associated with uncollected income.
If cash is received, revenue will be recognized immediately.
Cash Basic Weaknesses
- The amount of available cash will not be seen if you use the cash basis method.
- Recognition will only be recognized when cash is received, so this cash principle can reduce the calculation on bank income.
- There is no estimate of uncollectible accounts so that the cash principle is not very effective, and receivables can be written off immediately.
- Transaction processes that include delayed payments can be complicated by the cash principle because records are only recognized when cash is received or received.
- The cash principle can make it difficult for management to use a policy in the future process because it is heavily based on cash.
- Financial reports will not be able to show the potential profit or loss.
- The financial position is not shown properly, so the information conveyed will not be accurate.
Example of Basic Cash Accounting
Even so, the report will record project expenses as construction is paid for during the project. If the project timeframe is longer than one year, then the company’s income statement will appear misleading because the company will be depicted as having a large loss one year, followed by a large profit the following year.
Introduction to Accounting 2
Basic Cash Accounting Vs. accrual
The main difference between accrual accounting and the cash basis lies in the time when revenues and expenses are recognized. The cash method provides immediate recognition of revenues and expenses, while the accrual method focuses on anticipated revenues and expenses.
Definition of Accrual Principle
The accrual principle is the recording of financial statements in accounting which functions to record all transactions that are currently taking place . Unlike the cash basis, the accrual method of accounting records revenue when products or services are delivered to customers with the expectation that cash will be paid in the future. In other words, cash is accounted for before it is received. Likewise, expenses for goods and services are recorded before cash is paid.
Basic Definition of Cash
The principle of cash is the recording of financial statements in accounting which functions to record transactions when issuing and receiving cash . In addition, expenses are also only recorded when money is paid. Usually, this cash basis method is used by small businesses and for personal finance only.
Receivables and payables are recorded in the accrual method, so that they can provide a more accurate picture of a company’s profitability, especially in the long or long term.
For example, a company in the current quarter may receive sales that are not recorded under the cash basis. Then, the revenue is expected to be recorded in the next quarter. Maybe, investors will think that the company is not profitable, even though in fact the company is doing well.
Cash flow tracking is performed by the accrual method. Perhaps, a company looks profitable in the long run. However, they actually have challenges and a large cash shortage in short-term reality.
The accrual method has another disadvantage in that it can be more difficult to use because it needs to account for a variety of items, such as income received in advance and expenses paid in advance. Additional staff may also be required.
Fundamental Cash Method
The cash basis method has the advantage of simplicity. It only takes into account the money that has been received or paid. That way, tracking the company’s cash flow is also easier.
This method is beneficial for small businesses and sole proprietorships. Because, it is likely that it will not require additional staff or costs to carry it out.
Even so, this cash basis method may overstate the “healthiness” of a fund-rich company. This is because this method does not record accounts payable that may be greater than the money on the books and the company’s current income stream.
As a result, even though in reality the company is facing financial difficulties, an investor may actually conclude that the company is making a profit.
The accrual method is the more commonly used method, especially by public companies. This method can streamline income over time because it takes into account all income and expenses as they occur, and this is one of the reasons for the popularity of the accrual method.
On the other hand, the cash method only records when money changes hands and can provide a more frequently changing view of profitability than the accrual method.
For example, retailers will look very profitable in the fourth quarter as consumers buy for the holiday season, under the cash basis method. However, the company will look unprofitable in the first quarter of next year as consumer spending declines after the end of the holiday period.
Both the cash and accrual basis methods have their advantages and disadvantages. They provide different views regarding the financial health of a company. It is important for investors to understand the impact of both methods when making investment decisions.
Accrual vs. Accrual Accounting Examples Example of Basic Cash Accounting
Let’s say you own a business that sells machines. If you sell $5,000 worth of machinery, under the cash method, that amount is not recorded on the books until the customer hands you the money or you receive a check.
Meanwhile, under the accrual method, $5,000 is recorded as revenue on the day the sale is made, even though you may receive the money days, weeks, or even months later.
The same principle applies to expenses. If the company receives an electric bill for $1,700, under the cash method, the amount is not recorded until the company actually pays the bill. However, under the accrual method, $1,700 is recorded as an expense on the day the company receives the invoice.
Definition of Accrual Principle
The accounting method that records income and expenses before payment is received or paid is also known as accrual accounting. In other words, this method records expenses when a purchase transaction for goods or services occurs, and records income when a sales transaction occurs.
Thus, the revenues earned and fees paid are entered in the company’s journal, regardless of when the money was exchanged. Usually, accrual accounting is compared to the cash basis of accounting method which records revenue when goods or services are actually paid for.
How Accrual Accounting Works?
Accrual accounting has the general concept that accounting journal entries are made when goods or services are provided, rather than when payment is received or made. In addition, this entry also includes debts and payments due.
With the accrual method, it is possible to combine current and future cash inflows or cash outflows to provide a more accurate picture of the company’s finances, both current and long term.
The matching principle is used in accrual accounting, this principle states that income and expenses need to be recorded in the same period.
Advantages of Accrual Accounting
Indeed, the accrual method provides a more accurate picture of the current condition of the company. However, its relative complexity makes this method more difficult and expensive to implement.
The increasing complexity of business transactions and the desire to obtain more convincing financial information became the beginning of the emergence of this method. Sales on credit and new projects will provide an income stream in the long term affecting the company’s “health” when transactions occur.
For this reason, it is also reasonable for these events to be reflected in the financial statements during the same reporting period as when the transactions occurred.
Companies have direct feedback on cash inflows and outflows under the accrual method of accounting. Thus, it makes it easier for businesses to manage current resources and plan for the future.
The important thing to remember is that accrual accounting gives a more accurate picture of a company’s financial position. Even so, many small businesses prefer to use cash accounting because it’s not too confusing.
If it can be concluded, then accrual accounting is a method of accounting when new payments and expenses are credited and debited when received or incurred. This one method is different from the cash basis of accounting, which is when expenses are recorded when paid and income is recorded when money is received.
Double entry is used by the accrual accounting method, that is, there are generally two accounts that are used when making transactions. This method is more accurate than cash accounting because it better tracks the movement of capital through the company and helps plan its financial statements.
Intermediate financial Accounting
The cash basis method is very dependent on existing cash. This is because payments made will only be recognized when cash actually comes in or out. Thus, we must understand more deeply about the meaning of the cash principle before choosing the cash principle method.
Indeed, the cash basis method will be very helpful when making payments to make it more transparent because it will only record when a payment transaction occurs. However, this method has also become too reliant on payments.
Fun is not it? Knowing more about some of these very contradictory accounting methods, Matobers can learn more about accounting by reading books, especially those purchased through the sinaumedia.com site.