Accounting Methods Defined and Explained
Check out some of the accounting methods which you can use for your business.2 min read
A mathematical expression used to describe the relationship between the assets, liabilities and owner's equity of the business model. The basic accounting equation states that assets equal liabilities and owner's equity, but can be modified by operations applied to both sides of the equation, e.g., assets minus liabilities equal owner's equity.
ACCRUAL BASIS OF ACCOUNTING
An accounting basis wherein revenue and expenses are recorded in the period in which they are earned or incurred regardless of whether cash is received or disbursed in that period. This is the accounting basis that generally is required to be used in order to conform to generally accepted accounting principles (GAAP) in preparing financial statements for external users.
CASH BASIS OF ACCOUNTING
The accounting basis in which revenue and expenses are recorded in the period they are actually received or expended in cash. Use of the cash basis generally is not considered to be in conformity with generally accepted accounting principles (GAAP) and is therefore used only in selected situations, such as for very small businesses and (when permitted) for income tax reporting.
COMPLETED CONTRACT METHOD OF ACCOUNTING
A method of revenue recognition for long-term contracts (i.e., contract which span more than one accounting period) whereby the total contract revenue and related cost of performance are recognized in the period in which the contract is completed. This method stands in contrast to the percentage-of-completion method of accounting and is most often used when significant uncertainty exists with respect to the total cost of performing the contract and, accordingly, the ultimate amount of profit to be recognized thereon.
PERCENTAGE-OF-COMPLETION METHOD OF ACCOUNTING
A method of revenue recognition for long-term contracts (i.e., contracts which span more than one fiscal period) under which a portion of the total contract revenue, and a share of contract costs, is recorded in each period based on the relative cost or effort applied during that period. This method stands in contrast to the completed contract method of accounting, and is considered appropriate when the total cost of performing the contract and, accordingly, the ultimate profit to be recognized thereon, is reasonably determinable and predictable.