- GST reporting is a requirement for every small business owner. Cash and accruals are both applicable in the process of reporting and a small business owner can use either method.
- Accrual basis can be advantageous for small businesses because the latter might lack cashflow. But that's only one side of the story in the cash and accrual battle.
- Are you thinking about switching between cash and accruals? This article will help you understand the differences to pick the right GST accounting method for your small business.
Editor's Update 06/07/20:
Should you use cash or accrual accounting? The difference between cash and accrual accounting relates to the timing of when the sales and expenses are recorded in your books. Cash accounting refers to revenue and expenses when the money actually changes hands, whereas accrual accounting refers to revue when it's earned and expenses when they're billed out - even if this is much later down the line.
What is GST on a cash/accrual basis?
Accounting for GST on a cash basis mess that the GST stated on your business activity statement (BAS) covers the period in which you receive payment for your sales and expenses. GST on an accrual basis is payable on all sales and purchases you have received an invoice for during the period specified on your BAS statement - even if you haven't yet received the payment.
We’ve noticed that business owners sometimes get confused when their BAS amount payable is considerably higher or lower than what they are expecting. Usually, this happens when they report GST on a cash rather than an accrual basis (or non-cash). For most businesses, a BAS is largely for GST, PAYG withholdings (employee taxes withheld) and PAYG instalments (company tax instalments).
How is GST calculated?
GST is calculated as the GST owed to the Australian Taxation Office (ATO) by the business (GST collected on sales made), less the GST owed by the ATO to the business (GST paid on purchases made).
The ATO gives small business owners the option of reporting GST on a cash basis if they wish. Normally, a client’s accountant makes this decision for them when they register their ABN for them. Accountants typically choose cash as the basis of GST reporting because this benefits the majority of small businesses.
What's the difference between cash and accrual accounting?
The difference between cash and accruals is actually very simple.
Accruals measure a transaction by the date that it took place. For example, the date of a sales invoice or the date of a purchase invoice (or bill). However, sometimes a payment doesn’t take place until days, weeks or even months later.
This payment date is the cash date. In other words, if you’re running reporting on a cash basis, you’re reporting transactions on the dates that the cash was received for the sale, or the cash was spent on purchases.
So it can sometimes occur that many sales are made in a given period, but that customers haven’t paid for them at the end of the quarter (for most businesses, the BAS is lodged quarterly).
This would mean that you report less GST on sales on your Business Activity Statement for that quarter than your sales actually reflect, which would ultimately lead to you paying less GST this quarter and a bit more next quarter, (assuming that your customers pay you). Consider this while choosing between cash and accruals.
What are the benefits of accrual and cash basis GST?
While debating between cash and accruals, in the first case the benefit to the small business is cashflow. If you haven’t yet received the cash, (and the cash that covers the GST that you owe to the ATO on the sales you’ve made), then it can be difficult for businesses to have the cash available to pay their BAS obligations.
There are a small number of businesses that can benefit from reporting GST on an accruals basis. An example is a business that needs to pay for their goods or services up front, (often COD or 7-day payment terms), but offers extended payment terms to their customers. In this scenario, they’ve spent money on purchases, and thus on GST, but they’ve not yet collected cash on the sales that they’ve made.
So they want to be able to get a refund from the ATO for the GST that they’ve spent, (via purchases), without having to give the ATO the GST on the sales that they’ve made, but not yet collected. Due to the lag between paying expenses and receiving income, this kind of business can potentially struggle with cashflow.
Cash vs accruals: Things that can go wrong
Check your software financial settings and make sure that it matches your chosen GST reporting method. Refer to a previously lodged BAS for this information. If you didn't use a professional to set up your software, these settings may have been completely overlooked.
There are some small businesses that prepare their BAS using Excel. If you’re using this method and you’re calculating your GST obligations using your bank statements, then be sure to check that you’re registered for GST on a cash basis. If not, then your bank statement does not form the correct basis for calculating your GST obligations.
Although you could use your bank statement as a starting point, you would need to include in your spreadsheet the date of the invoices (sales) or bills (purchases), and this would mean including transactions in your spreadsheet that have not yet appeared on your bank statement as at the end of the BAS period.
It also means that cash that has come into or left the bank account early in the quarter may have been reported on last quarter’s BAS, and thus does not need to be included in this quarter’s BAS. The accruals method, although easier to work with when you’re using accounting software, is actually a little bit more challenging to figure out when you’re using Excel.
Should I switch between cash and accrual accounting methods?
If you're overthinking between cash and accruals too much, you'll be happy to know that it is possible to switch between cash and accruals reporting for GST purposes, but this is a little bit trickier because it means including or excluding certain transactions that you would ordinarily not report.
If you are going to make this change, be sure to discuss this with your bookkeeper or accountant first, and get them to help you prepare the BAS during the changeover period. That being said, in your battle of cash and accruals, make sure to talk to an expert who can help you make the right decision.
Have you already decided between cash and accruals?
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