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Accruals Basis Accounting, Cash Basis Accounting, Simplified Accounting

This Content Was Last Updated on March 10, 2024 by Jessica Garbett

 

You will sometimes hear terms “Cash Basis Accounting”, “Accruals Basis Accounting” and “Simplified Accounting”.

Here is what they mean – the context is different for VAT versus Income Tax and Corporation Tax.

 

Cash v Accruals Accounting – VAT

Cash accounting means transactions are reported for VAT according to the date they are paid or received.

Accruals accounting, also known as invoice accounting, for VAT means transactions are reported by reference to the date of the invoice.  This is the default for VAT accounting.

Generally for VAT registered yoga businesses cash accounting is simpler and more logical, and not detrimental.   However if you have a large number of suppliers who you deal with on an account basis and pay later on, eg 30 or 60 days, then accruals accounting may slightly advance your VAT Input Tax claims – unlikely to be a concern for most yoga businesses.

You are eligible to join cash accounting if your turnover is less than £1.35m.

If you use the Flat Rate Scheme then you will automatically be using a form Cash Accounting.

HMRC Guidance on Cash Accounting

 

Cash v Accruals Accounting – Income Tax & Corporation Tax

Cash Basis Accounting means transactions are reported for tax according to the date they are paid or received.

Accruals Basis Accounting for Income Tax & Corporation Tax means transactions are matched to the period they relate to, eg:

  • Income is reported when earned rather than received
  • Expenses are reported against the period the income is earned in, rather than when paid

Eligibility:

  • Sole traders and Partnerships are eligible to use Cash Basis Accounting if their turnover is less than £150,000 at entry and must revert to Accruals Basis if turnover goes over £300,000.
  • It has been proposed in Autumn Statement 2023 that Cash Basis becomes the default for Unincorporated businesses although they will be able to elect into Accruals Accounting.
  • Companies are not allowed to use cash accounting, although unofficially some small companies do.

Lets look at an example:

Sandy’s business year end is 5 April annually in line with tax year.

She is running a retreat in June 2024 and:

      • She receives deposits from guests of £1,000 in January 2024
      • She receives balances from guests of £4,000 in May 2024
      • She pays a deposit for the venue of £1,000 in March 2023
      • She pays the balance for the venue of £1,500 in March 2024

Under Accruals Basis Accounting this is all reported in 2024/25 – Income of £5,000 and expense of £2,500

Under Cash Basis Accounting, she reports:

      • 2022/23 Expense £1,000
      • 2023/24 Income £1,000 Expense £1,500
      • 2024/25 Income £4,000

Using Cash Basis Accounting she is able to claim her expenses against tax sooner.  However this is very date specific and in other instances her tax liabilities may have advanced.

A few points to note:

  • For most small yoga businesses, which tend to be quite simple and not buy or sell on credit, Cash Basis Accounting tends to happen automatically – especially if your business is class teaching based, so you are not taking deposits.
  • For businesses who take or make deposits, eg for retreats, or buy or sell on credit, Accruals Basis Accounting tends to be preferred as it makes sure transactions are matched.
  • You do not have to use the same accounting basis for VAT and Income Tax.
  • If you use Cash Basis Accounting for Income Tax your options for offsetting losses are more restricted – hopefully not a concern.

HMRC guidance on Cash Basis

Looking ahead – in Autumn Statement 2023, 22nd November 2023, it was announced that:

  • From 2024/25 Cash Basis would be the default for unincorporated businesses (Sole Traders and Partnerships)
  • Businesses can still elect for accruals accounting
  • The thresholds for entry and exit are to be abolished
  • The restrictions on offsetting losses and finance costs under Cash Basis Accounting are to be abolished

 

Simplified Accounting

Simplified Accounting is an HMRC scheme to simplify some expenses for small businesses under Self Assessment for Income Tax.

It covers:

HMRCs guidance is here, and our guidance on Car Costs and Working From Home / Home As Office Expenses reflect the Simplified Accounting guidance.

Our advice is to use the simplifications where appropriate.

 

On Your Self Assessment Return

Our advice is not to worry about selecting the box for “cash accounting” – most the time this treatment happens by default anyway.

Seek advice from us if your circumstances are more complex.