Accrual Accounting Concept in IFRS and GAAP

In accounting, there are two main methods of recording the income and expenses in the books of accounts. They are: cash basis and accrual basis.

In the cash method, the income or revenue is recorded when the cash is received, and the expenses are recorded when the cash is paid. This is the simplest way of accounting for transactions and any revenue doesn’t reflect in the accounts till the payment has been received. So, if a business has any debt it will appear in the books only when it is paid. Cash basis of accounting is allowed only for small businesses.

In the accrual accounting method, the revenue is recognized on the day it is earned and the expenses are recorded on the date they are incurred. The recognition of revenue and expenses is not concerned with the dates of actual cash flows.

If your business has only cash transactions both cash basis and accrual basis accounting will produce the same results. However, if you do some transactions on credit, as in most business, the results will vary.

Both IFRS and GAAP mandate the use of accrual method for recording all revenue and expenses.

The accrual accounting concept is rooted in matching principle. So, if a business earns money in 2013, it will be recorded as sales for 2013, even if the payments for this sale are expected to be received only in 2014.

In GAAP, you are free to choose between the two methods if your annual sales are below $5 million. For IFRS the only basis is accrual accounting.

Under IFRS, the underlying assumption for preparing financial statements is that they are prepared based on the accrual basis, except the cash flow statement.

The accrual accounting system is very flexible and provides the management many opportunities to manipulate their financial statements. However, other accounting principles reduce such flexibility and the ability of management to cook the books.