Short answer
Under the cash method, you record income when you receive it and expenses when you pay them. Under the accrual method, you record income when you earn it and expenses when you incur them, whether or not money has changed hands. Most small businesses may use either for taxes. C corporations, and partnerships with a C corporation partner, generally must use accrual unless their average annual gross receipts for the 3 prior years are $32 million or less (the 2026 figure).
Every set of books runs on an accounting method, the rule for when a sale or a bill shows up in your numbers. The method you choose changes your profit in a given year, the tax you pay that year, and how useful your reports are for running the business.
The IRS rules below come from IRS Publication 538, Accounting Periods and Methods, and the IRS page on the gross receipts test, linked at the end.
What is the cash method of accounting?
Under the cash method, you generally report income in the tax year you receive it and deduct expenses in the tax year you pay them.
"Receive" includes constructive receipt. Income counts as received when it is credited to your account or made available to you without restriction, even if you haven't taken it yet. A check you hold on December 31 is income for that year, even if you deposit it in January.
There are limits on prepaying. A prepaid expense is generally deductible only in the year it applies to, unless it fits the IRS 12-month rule.
What is the accrual method of accounting?
Under the accrual method, you include income in the year the "all events test" is met: when you have the right to the income and the amount can be figured with reasonable accuracy. In everyday terms, when you have earned it, usually when you finish the work or deliver the goods and send the invoice.
You deduct an expense when the all events test is met and economic performance has occurred. Put simply, when you owe it and the goods or services have been provided, not when you pay the bill.
Cash vs. accrual: the same month, two answers
Here is a made-up example. A consulting business finishes a $10,000 project in December 2026 and invoices the client, who pays on January 20, 2027. In December the business also receives a $1,500 software bill, which it pays in January.
| Cash method | Accrual method | |
|---|---|---|
| $10,000 project income | Counted in 2027, when the money arrives | Counted in 2026, when it was earned and invoiced |
| $1,500 software bill | Deducted in 2027, when paid | Deducted in 2026, when incurred |
| Effect on 2026 profit | Neither item appears | $8,500 more profit in 2026 |
Over two years the totals are the same. The method only moves income and expenses between years, but that can move tax between years too.
Pros and cons for a small business
| Cash method | Accrual method | |
|---|---|---|
| Simplicity | Easy: follows the bank account | Needs invoices, bills and adjustments tracked |
| Tax timing | Income isn't taxed until it is collected | Income can be taxed before the customer pays |
| Picture of the business | Can swing month to month with when people pay | Matches income with the costs of earning it |
| Unpaid invoices and bills | Not on the books | Shown as accounts receivable and payable |
Many owners like cash for its simplicity and accrual for the clearer view of profit. A good chart of accounts with receivables and payables accounts lets your bookkeeper produce accrual reports for management even when your tax method is cash, if that suits you.
Who has to use the accrual method?
Publication 538 says these generally can't use the cash method:
- A corporation other than an S corporation (a C corporation).
- A partnership that has a C corporation as a partner.
- A tax shelter.
There is an exception for smaller businesses. A C corporation or such a partnership can use the cash method if it meets the gross receipts test: average annual gross receipts for the 3 prior tax years at or below an inflation-adjusted amount. The IRS gives that amount as $30 million for 2024, $31 million for 2025 and $32 million for 2026. Tax shelters can't use the exception.
Sole proprietors, single-member LLCs, partnerships without a C corporation partner and S corporations aren't on that list. Businesses that carry inventory have extra rules, so check Publication 538 or ask your accountant before choosing.
Can you mix methods?
Yes, within limits. The IRS allows a combination of cash, accrual and special methods if it clearly reflects income and you use it consistently. You can also use different methods for your business and your personal items. If you run two separate businesses, each can use its own method, as long as each keeps its own complete books.
How to change your accounting method
You choose a method when you file your first return. To change it later, you generally need IRS approval, which usually means filing Form 3115, Application for Change in Accounting Method. Talk to a tax professional first: a change can shift a lot of income or expense into the year of the change.
Which should you choose?
- A service business paid at or near the time of the work: cash is usually simpler and the two methods give similar results.
- A business that invoices and waits 30 to 90 days to be paid: accrual gives a truer monthly profit, while cash may defer some tax.
- A business applying for a loan or bringing in investors: lenders and investors often ask for accrual-basis statements.
Our tax planning team can model both methods on your numbers before you commit.
How Top Accounting Firm can help
Our bookkeeping service sets up your books on the right method from the start and keeps them current every month. New to the basics? Read what bookkeeping is and why it matters, or book a free consultation.
Frequently asked questions
What is the difference between cash and accrual accounting?
Can a small business use the cash method for taxes?
What is the gross receipts test for 2026?
What is constructive receipt?
Do I need IRS permission to change from cash to accrual?
Can I see accrual-style reports if I use the cash method?
Sources
- IRS: Publication 538, Accounting Periods and Methods
- IRS: Questions and answers about the limitation on the deduction for business interest expense (gross receipts amounts)
- IRS: Revenue Procedure 2025-32 (2026 inflation adjustments)
Checked against these sources on October 26, 2026. This article is general information, not tax or legal advice. Rules, fees and deadlines change, so confirm with the official source or a tax professional before you file.
