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Preparing accounts on a cash or accrual basis – which will you choose?

Preparing accounts on a cash or accrual basis – which will you choose?
From 6 April 2017, unincorporated businesses with sales of less than £150,000 can choose to prepare their accounts on a cash basis. In this way, they will only pay tax on income they have actually received and will only be able to claim on payments they have made.
The Government have no doubt introduced this method of accounting in order to make the transition to Making Tax Digital a little easier for small businesses.

To choose the cash basis you simply need to make an election when completing your tax return.

Is it really that simple?

As always, the answer is ‘no’.
For instance, when switching from the accruals basis to the cash basis you will need to make an adjustment for opening trade debtors as they will have already been subject to tax in your last year under the accruals basis and potentially taxed again when you move to the cash basis.

Will we be advising our clients to switch to the cash basis?
We will only recommend this method of accounting to the very small businesses such as taxi drivers or window cleaners, or for those businesses who wait a long time to get paid.

For most businesses we believe that the disadvantages outweigh the advantages. Arriving at this conclusion we considered the following points: -
·         Accruals accounting gives a much better picture of how your business is performing.
·         Under the cash basis, if you have a loan then you are only entitled to deduct a maximum of £500 in interest charges against your income.
·         If your business is expanding as soon as your sales reach £300,000 in a year then you will have to revert back to the cash basis
·         If you use factoring then adopting the cash basis may well prove challenging.
·         In the first year of accounting under the cash basis your profits may be lower as you are no longer taking into account trade debtors and work in progress; whilst this may be beneficial from a tax perspective, if you are looking for a loan or mortgage it could be very detrimental.

As you can see, the picture is not straightforward as with many accounting issues, but if you would like help in this area please do not hesitate to contact one of the James, Stanley & Co. team.
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