Cash accounting is an alternative method of producing accounts compared to the traditional accounting, known as Generally Accepted Accounting Practice (GAAP).
GAAP seeks to match income and expenses when the transaction happens. So, unpaid sales and purchases are included in the accounts (along with anticipated income and expenses) and prepaid items are excluded.
Cash accounting is simpler and only includes completed transactions. So, it can save accounting fee, however, there are a number of restrictions which can mean it is not the best option for tax reasons.
From April 2017 a business with turnover below £150,000 can opt to use Cash Accounting by ticking a box on the return. But, you have to exit Cash Accounting if your turnover exceeds £300,000.
If you have more than one business you must add together all your businesses sales to work out turnover for Cash Accounting. And, if you choose to use it for one business you must use it for all your businesses. If you have more than 50% of a partnership this will count towards the turnover for Cash Accounting.
There are restrictions for losses and interest which could mean Cash Accounting is not a good choice. But, the tax adjustment for goods taken for own use cost less because you don’t add a sale, you just reduce costs.
If you opt for Cash Accounting you can also use fixed rate expenses for cars, use of your home for business and private use of business premises.
There are some businesses that are excluded including Companies and Limited Liability Partnerships. But, it’s worth looking at especially as there could be a one-off tax planning opportunity in the year you switch to Cash Accounting.
This is because income cannot be taxed twice and any pool of capital allowances is deducted in the first year.
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Image from Flickr by Andrechinn.