Is it Income or Not? - Accounting

label Accounting
account_circle Unassigned
schedule 1 Day
account_balance_wallet $5

A business which uses the cash basis receives a computer from a customer in payment for a $2000 bill. Does the business have any recognizable income, since payment was received in a noncash form? Why? Also, what restrictions exist on which businesses can use the cash basis. Why do you believe these restrictions were imposed?

Sep 24th, 2015

Thank you for the opportunity to help you with your question!

The business will not have recognized any income even after recieving the $2000 bill. Basing on the realisation concept, the cash accounting system recognizes income only when payment has been made. If cash was recieved, or credit reciepts made or checks issued instead of the bill, then the business would have realised income from the computer sale. In this case however, the business will realise income from the bill only when payment for the same will be made.

The cash basis acconting method is mostly used by small businesses such as sole proprietors and companies which have not incoporated formally. This is because the system is user friendly and it doesnt require hiring a many employees to man the accounting function.

More specifically, the following restrictions exist on the business which can use the cash accounting method;

  • The use of cash accounting method is retricted where a business reports its inventory at the end of the year

  • C corporations, C coporation partners and tax shelters are restricted from using the cash accounting method.

  • Businesses that have reported gross annual sales of over five million dollars for the last three years are exempted from using this method.

  • Personal services businesses whose activities relating to services are less than 95%.

These restrictions were imposed specifically to try and arrest chances of altering reported earnings by businesses.this so since under the cash basis system, businesses can easily balloon their expenses while reducing their earning in order to avoid paying taxes.


Please let me know if you need any clarification. I'm always happy to answer your questions.
Sep 26th, 2015

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