Cash v Accruals

When managing your NFP organisation’s finances, one of the most important decisions you’ll make is how to track income and expenses. This brings us to two main accounting methods: cash accounting and accrual accounting. Each has pros and cons, and choosing the right one can impact your financial reporting, tax obligations, and cash flow. So, let’s break it down in a simple, easy-to-understand way.

Cash accounting is a straightforward, no-nonsense approach to tracking finances. With this method, you record income when you receive cash (or a direct deposit) and record expenses when you pay them.

For example:

You invoice on March 1st, after you have delivered services to your client,  and receive payment on April 15th. With cash accounting, you record the income in April when you receive the payment.

You purchase office supplies on June 5th but don’t pay the supplier until July 10th. You record the expense in July when the payment is made.

You pay your staff on March 3rd, for the last fortnight of work.  You record the expense in March, when the payment is made, even though the days worked were in February.

This method is simple and ideal for small NFP organisations who want an easy way to track money coming in and going out. It’s beneficial for NFPs with minimal transactions and no need to track inventory.

This method does have its advantages. It is easy to understand and maintain while providing a clear cash flow picture. It helps NFPs manage tax obligations by deferring income until payments are received. While it has advantages, it also has some drawbacks. Firstly, cash accounting does not show money that is owed or what you owe to others. It can give a false impression of your financial health, making it look better or worse than it is, depending on when transactions occur.

Accrual accounting, on the other hand, provides a more accurate picture of your financial position. The accrual accounting method records income when “earned” and expenses when incurred—regardless of when the cash changes hands.

For example:

You send an invoice for services delivered on March 1st, and even though the client won’t pay until April 15th, you record the income in March because that is when it was earned.

You purchase office supplies on June 5th, but record the expense in June even if you don’t pay until July 10th. This is because you incur the expense as soon as you take the supplies.

You pay your staff on March 3rd for the last fortnight of work. You would not record the payment as an expense in March and would take up an accrual in February to account for the days worked. You incurred this cost as soon as your staff worked their contracted hours.

When contrasted with the treatment of these examples under cash accounting, the concept of earned and incurred becomes clear.

Accrual accounting is typically used by larger NFP organisations that carry inventory, have many transactions, or want to track financial performance more accurately. Providing a more holistic overview of your NFPs’ financial health is one of the key advantages of the accrual method. It provides a superior financial planning and forecasting method and complies with accounting standards for larger NFP organisations.

The accrual accounting method is more complex and requires accurate receivables and payables tracking.  It requires a nuanced understanding of cash flow since income and expenses don’t always tie into movement of cash in the bank.

NFPs face unique financial reporting and compliance obligations. Choosing between cash and accrual accounting can affect how NFPs manage their financial records, track funding, and meet regulatory requirements.

Some small NFPs may opt for cash accounting because it is simpler and aligns with how grants, donations, and operational expenses flow. Since many small community-based charities operate on a cash basis, this method makes it easier to track available funds and manage day-to-day expenses.

Larger NFPs or those that receive significant grant funding are often required to use accrual accounting to comply with Australian Accounting Standards and reporting obligations to regulatory bodies like the Australian Charities and Not-for-profits Commission (ACNC). This method provides a clearer view of financial obligations, mainly when dealing with multi-year funding, grant conditions, and deferred revenue.

Many NFPs are legally required to provide financial reports using accrual accounting to ensure transparency and accountability. Charities registered with the ACNC that meet the financial reporting thresholds must prepare financial statements in accordance with Australian Accounting Standards, which typically require accrual accounting.

Government-funded organisations often need to use accrual accounting to properly account for funding received in advance and expenses incurred but not yet paid.

Accrual accounting provides a more detailed and transparent financial picture for stakeholders, donors, and grant providers, helping them understand how funds are managed and allocated.

It is always advisable to get professional advice from your accounting firm. In summary, cash accounting is a good option for smaller NFPs (less than 500K) in turnover. Medium-size to larger NFP organisations with inventory and significant and diverse revenue streams are normally required to track financial performance in greater detail, and accrual accounting will often be the preferred method.

At Accounting For Good, we work with NFP organisations with a turnover of $1M or more.

Contact us for a free consultation if your organisation needs expert financial guidance. Let us handle your accounting needs so you can focus on what matters most—serving your community and driving positive change.