What Is Accrual Accounting? A Simple Guide for Small Businesses

Accrual accounting records revenue in the period you earn it and expenses in the period you incur them, whatever the date the cash comes in or goes out. If you finish a job in December and the client pays in January, the revenue belongs to December. Cash basis accounting, the main alternative, records the revenue in January, when the money arrives.

Billed publishes this page. The accounting definitions below come from the open textbook Principles of Accounting, Volume 1: Financial Accounting (OpenStax), sections 4.1 on adjusting entries and 4.2 on common adjusting entries. The US tax rules come from IRS Publication 538 (01/2022), Accounting Periods and Methods. All were opened on October 29, 2026. This is general information, not accounting or tax advice; ask your accountant how the rules apply to your business.

Accrual vs cash basis

OpenStax puts the accrual rule this way: "accrual basis accounting prescribes that revenues and expenses must be recorded in the accounting period in which they were earned or incurred, no matter when cash receipts or payments occur."

By contrast, "cash basis accounting is a method of accounting in which transactions are not recorded in the financial statements until there is an exchange of cash." OpenStax notes that cash basis "can be simpler to track than accrual basis accounting", and that "The accrual method is considered to better match revenues and expenses and standardizes reporting information for comparability purposes."

OpenStax also notes that companies "using US GAAP or IFRS prepare their financial statements using the rules of accrual accounting."

The two principles behind it

OpenStax: "It is because of accrual accounting that we have the revenue recognition principle and the expense recognition principle (also known as the matching principle)."

• Revenue recognition: revenue is recorded when it's earned, which for a service business is when the work is done, not when the invoice is paid. See revenue recognition.
• Expense recognition (matching): the costs of earning that revenue are recorded in the same period as the revenue.

Accruals and deferrals

Under accrual accounting, period-end adjusting entries catch amounts that the day-to-day records missed. OpenStax describes two kinds of accruals:

• "Accrued revenues are revenues earned in a period but have yet to be recorded, and no money has been collected."
• "Accrued expenses are expenses incurred in a period but have yet to be recorded, and no money has been paid." See accrued expenses.

The opposite timing, cash first and the work later, is a deferral. Cash a client pays before you do the work is deferred revenue until you earn it.

In practice, accrual books carry balances that cash books don't: accounts receivable for invoices not yet paid, accounts payable for bills not yet paid, accrued expenses and deferred revenue.

Worked example: one job across two months

The business and figures here are a sample, invented for this example.

A consultant finishes a project on December 28 and invoices $10,000. The client pays on January 10. The consultant's December electricity, $300, is billed in January and paid on January 15.

Accrual basis journal entries:

1. December 28: debit Accounts Receivable $10,000; credit Service Revenue $10,000.
2. December 31: debit Utilities Expense $300; credit Accrued Expenses $300 (December's electricity, not yet billed).
3. January 10: debit Cash $10,000; credit Accounts Receivable $10,000.
4. January 15: debit Accrued Expenses $300; credit Cash $300.

Each entry's debits equal its credits.

Profit by month:

• Accrual, December: $10,000 revenue − $300 expense = $9,700.
• Accrual, January: $0 revenue − $0 expense = $0. The January entries only move amounts between cash and the balances set up in December.
• Cash basis, December: no cash in or out, so $0.
• Cash basis, January: $10,000 received − $300 paid = $9,700.

Over the two months both methods give $9,700. What differs is the month: accrual shows the profit in December, when the work and the electricity use happened, and shows a $10,000 receivable at December 31 that cash basis doesn't.

US tax rules for accounting methods (IRS Publication 538)

The accounting method you use for your books and the one you use for your tax return are related but separate questions. For US federal tax, Publication 538 says:

• "Under the cash method, you generally report income in the tax year you receive it, and deduct expenses in the tax year in which you pay the expenses."
• "Under the accrual method, you generally report income in the tax year you earn it, regardless of when payment is received. You deduct expenses in the tax year you incur them, regardless of when payment is made."
• "The purpose of an accrual method of accounting is to match income and expenses in the correct year."

Who can't use the cash method. Publication 538 lists entities that "generally cannot use the cash method": "A corporation (other than an S corporation)", "A partnership with a corporation (other than an S corporation) as a partner" and "A tax shelter". There are exceptions, including for "Any corporation or partnership, other than a tax shelter, that meets the gross receipts test", which Publication 538 describes as "average annual gross receipts for the 3 prior tax years were $26 million or less (indexed for inflation)." Because the figure is indexed for inflation, ask your accountant for the amount that applies to your tax year.

Inventory. Publication 538: "If an inventory is necessary to account for your income, you must use an accrual method for purchases and sales." It also gives an exception for small business taxpayers, so check that section with your accountant if you hold inventory.

Changing methods. Publication 538: "In general, you must file a current Form 3115 to request a change in either an overall accounting method or the accounting treatment of any item."

Common accrual mistakes

• Recording revenue before the work is done.
• Missing period-end accruals, such as wages or utilities used but not yet billed.
• Leaving deferred revenue on the books after the work is delivered.
• Reading a cash basis report as if it were accrual, or the other way round. Label which basis each report uses.

Accrual profit isn't cash in the bank. A month can show a profit while receivables grow and the bank balance falls, so read the cash flow statement alongside the profit and loss.

Where Billed fits

Billed is invoicing software, and it publishes this page. Under accrual accounting, each unpaid invoice is part of accounts receivable. Billed's invoice software page says its invoice reports show "which invoices are paid, partially paid or past due", and its financial reporting page says "Each report can be filtered by date range and exported." That gives you or your accountant a list of open invoices to check against receivables at period end. Its expense tracking page says an expense in Billed records "who you paid, when, how much and which category it belongs to, with the receipt attached to the same entry."

When this guide isn't for you

This page covers accrual accounting for a small business. If you report under US GAAP or IFRS to investors or lenders, recognize revenue on long or multi-part contracts, or are changing your tax accounting method, work with an accountant on the specific rules.

Related articles

• What Are Accrued Expenses?
• What Is Deferred Revenue?
• What Is Revenue Recognition?
• What Is Accounts Receivable?
• What Is Accounts Reconciliation?
• What Is a Cash Flow Statement?

Frequently Asked Questions

What is accrual accounting in simple terms?

You record revenue when you earn it and expenses when you incur them, not when cash changes hands. A job finished in December is December revenue even if the client pays in January.

What is the difference between accrual and cash basis accounting?

Cash basis records a transaction only when cash comes in or goes out. Accrual basis records it in the period it's earned or incurred, so it shows receivables, payables and accrued expenses that cash basis doesn't.

When is a US business required to use the accrual method for taxes?

IRS Publication 538 says "A corporation (other than an S corporation)", "A partnership with a corporation (other than an S corporation) as a partner" and "A tax shelter" can't use the cash method unless an exception applies. A corporation or partnership that isn't a tax shelter can use it if it meets the gross receipts test, which Publication 538 gives as "$26 million or less (indexed for inflation)" averaged over the 3 prior tax years. Ask your accountant for the current figure and whether inventory rules apply to you.

Can I switch from cash basis to accrual accounting?

For US federal tax, IRS Publication 538 says that to change your overall accounting method, you must, in general, file a current Form 3115 to ask for it. Ask your accountant before you change.

Does accrual profit mean I have that much cash?

No. Accrual profit includes revenue you haven't collected yet, so a business can show a profit while its bank balance falls. Read the cash flow statement alongside the profit and loss.