Concepts

Accruals basis

The accruals basis is an accounting method where income and expenses are recorded when they are earned or incurred, regardless of when money changes hands.

Under the accruals basis, you recognise income when you have earned it, and expenses when you have become liable for them, rather than when cash moves. If you complete a job and issue an invoice in June, the income belongs to that period even though the customer pays in August. Likewise, a bill received in June for work done in June is an expense of June even if you pay it next month.

This method gives a more accurate picture of a business's performance in each period, because it matches revenue with the costs of earning it. That is why larger businesses, and businesses that hold stock or have complex arrangements, commonly use it. Accounting software normally runs on accruals by default, tracking what customers owe through accounts receivable and what you owe suppliers through accounts payable.

For income tax, some taxpayers are required to use an accruals approach and others may choose it. The rules depend on the type of entity, the size of the business and the nature of the income, so check the current requirements on the ATO website or with an adviser. Where it applies, assessable income is generally counted when you have a right to receive it, and deductions are generally counted when you incur the expense.

For GST, the equivalent is accrual accounting for GST. Under it, GST on a sale is generally reported in the period you issue the invoice or receive payment, whichever comes first, and credits are generally claimed in the period you receive a tax invoice or pay, whichever is first. That means you can owe GST to the ATO before your customer has paid you, which can affect cash flow.

The main advantage is clarity and consistency, particularly for businesses managing debtors and creditors. The main disadvantage is the cash flow effect where customers pay slowly. If a debt turns out to be unrecoverable, there are rules for writing it off, and for GST a bad debt adjustment may be available once the conditions are met. Good credit control and prompt invoicing help to reduce the timing gap.

A common misunderstanding is that accruals reporting means you pay tax on money you never receive. For a debt that proves bad, you can generally claim a deduction and adjust the GST, although conditions apply. Another is mixing methods inconsistently within the same period. Choose a basis, apply it consistently and document the approach. This is general information only, so confirm which basis applies to you with the ATO or a registered tax professional.

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