Understanding the Concept of Taxable Income

Introduction3

Discussion3

Pros and Cons of Cash Flow Accounting Method3

Pros and Cons of Accrual Accounting Method4

Calculation of Andrew's Taxable Income on the Basis of Accrual and Cash Method5

General explanation of the cash basis, including details of when it will be introduced, and whether there will need to be any adjustment to Andrew's accounts7

Comments on Andrew's specific circumstances as outlined above.8

Advice as to whether you think that the cash basis will be of advantage to him and whether you will be recommending it8

Conclusion8

References9

Understanding the Concept of Taxable Income

Introduction

Dear Andrew, it is imperative for you to recognize and understand the basics of accounting methods for keeping a track record of business income and expenses. Accountants and professionals mainly use two methods for the same reason; accrual method and cash method. Both methods can be used in different circumstances and entities may choose from such method according to their specific requirements. In simple words, these two methods vary from each other on the basis of timing related to the debit and credit issue associated with the sales and income. In cash accounting method, expenses are counted only when they are paid, and income is counted when it is received in actual (Kath Nightingale, 2002, Pp. 10-35). In contrast, accrual accounting method records a transaction when it happens despite of receiving or paying actual money. In some cases regulators require the business or individuals to follow specific type of method, whereas in other cases selection of method is based on discretion of individuals or business entity. Both methods have their own advantages and disadvantages.

Discussion

Pros and Cons of Cash Flow Accounting Method

A number of advantages and disadvantages are associated with the cash accounting method. Following are some of them

Correct Following of Cash Flow: cash accounting provides an accurate indication of your cash flow. Given that, this method records your expenses or revenues only when they are actually realized, which helps you in understanding the amount of cash you have for a specific period of time.

Inaccurate illustration of the Long Term Expenses and Revenues: cash flow method elucidates correct position of the cash flow, but it provides a false or misleading impression of your revenues & expenses.

Less Bookkeeping: managing accounts of a business according under the cash flow method is fairly easy as compared to accrual method. You have to record transaction only and only when cash enter or leaves your account.

Firms Size: cash method suits sole proprietorship, small business and partnerships because it's simple and easy to understand. On the other hand, corporations or big companies opt for accrual method of accounting.

Pros and Cons of Accrual Accounting Method

Advantages and disadvantages associated with the accrual method of accounting are as given below

Accurate illustration of the Long Term Expenses and Revenues: opposite to the cash accounting, accrual accounting provides more clear and authentic picture of your overall operations. It provides a broader picture of what your business has done in term of income and expenses for a specified time of ...