Types of accounting basis
Basis of accounting are classified in two categories:
1. Cash Basis of Accounting
2. Accrual/Mercantile Basis of Accounting
1. Cash Basis of Accounting
Under this accounting transactions are recorded only when cash is actually received or paid. Revenue is recognised only on the receipt of cash. Expenses are recorded only when actual cash is paid for it.
Outstanding expenses, accrued income are not considered whereas, prepaid expenses and incomes received in advance are recorded. This method is useful for professionals like doctors, CAs, lawyers, etc. Their income is calculated with help of receipts and payments account.
Advantages of Cash Basis of Accounting
The main advantages of cash basis of accounting are:
(i) This method is simple to understand and follow.
(ii) No adjustment for prepaid and outstanding is required in this system.
(iii) This method cannot be affected by the personal bias of accountant.
Disadvantages of Cash Basis of Accounting
The following disadvantages of cash basis of accounting are:
(i) Due to absence of matching principle, all incomes and expenses do not relate to one accounting year.
(ii) Capital and revenue items are not recognised.
(iii) Law does not recognise this system.
2. Accrual/Mercantile Basis of Accounting
Based on matching concept, revenues and costs are recognised in the period in which they occur rather when they are received and paid respectively.
A distinction is made between the receipt of cash and the right to receive cash. Similar distinction between payment of cash and legal obligation to pay cash is made.
Advantages of Accrual Basis of Accounting
The main advantages of accrual basis of accounting are:
(i) Due to presence of matching principle, incomes and expenses relate to one accounting period.
(ii) It is most scientific system of accounting.
(iii) This system makes difference between capital and revenue items.
Disadvantages of Accrual Basis of Accounting
The following disadvantages of accrual basis of accounting are:
(i) It is difficult and costly method as compared to cash basis of accounting.
(ii) Personal judgement play important role and financial results may be manipulated.
(iii) It is time consuming method to arrive at the financial results.
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