Two shopkeepers sell the same goods to the same customer on credit in March. One records the sale in March; the other waits for April's payment. Both are 'right' — under different accounting methods. Cash versus accrual is the most basic choice in bookkeeping, it changes what your profit means, and Indian law doesn't leave it entirely to taste. Here is how each method thinks, what the rules require, and how to choose.
The two methods in one example
You invoice ₹1,00,000 in March; the customer pays in May. You received ₹20,000 advance in February for April's delivery. Cash basis: income when money arrives — ₹20,000 in February, ₹1,00,000 in May. Accrual basis: income when earned — ₹1,00,000 in March, the advance recognised only on April's delivery. Mirror logic for expenses: cash books them when paid; accrual when incurred. Cash answers 'what happened to my money?'; accrual answers 'what did my business actually earn?' Both questions matter — which is why even cash-basis businesses end up tracking receivables informally, and accrual businesses live on cash-flow statements.
What Indian law actually permits
- Companies: accrual is mandatory — the Companies Act prescribes accrual and double entry; there is no choice
- LLPs: may choose cash or accrual (the LLP Act permits either)
- Proprietors and firms, for income tax: Section 145 permits either cash or 'mercantile' (accrual) for business/professional income — chosen regularly and followed consistently
- GST doesn't care about your books' method: liability follows supply/invoice under time-of-supply rules either way
- Presumptive filers (44AD/44ADA): the question mostly dissolves — income is deemed from turnover
Section 145 lets you pick a method, not alternate between them for convenience. Switching needs genuine reason and clean transition workings; opportunistic flip-flops (accrual in loss years, cash in profit years) are exactly what assessing officers reopen.
Where each method shines
Cash basis suits: professionals and freelancers collecting soon after billing; tiny service businesses without stock; anyone whose real risk is spending money they haven't received — cash books make that structurally impossible to miss. Tax lands only on collected income, a genuine advantage where clients pay slowly. Accrual suits: anything with inventory, credit sales or credit purchases (cash books simply cannot show trading reality); businesses seeking loans or investors (bankers read accrual); and any founder who needs margins by month rather than by mood. Practically, every business beyond micro-scale converges on accrual — the only question is when.
The hybrid reality — and its dangers
Many small Indian books are accidental hybrids: sales on accrual (invoices entered), expenses on cash (bills entered when paid). The result overstates profit systematically and survives until the first serious reader. If you run accrual, run it fully — provisions for expenses incurred, advances as liabilities, prepaid costs spread. If you legitimately run cash (eligible professionals), run that fully too — and say so on your returns consistently. The method is a discipline, not a default of whatever the bookkeeper found easier that day.
Switching methods cleanly
Moving cash→accrual (the usual direction, at growth): pick a year-start; build the opening bridge — receivables, payables, advances, stock all brought on books; disclose the change and keep the transition working papers, because one year's figures will straddle definitions. Expect a one-time distortion in comparability and a permanent upgrade in what your numbers can tell you. Do it with your CA in a planned quarter, not mid-crisis.
How Aidwish helps
Aidwish assesses which method fits each client's stage, runs cash-to-accrual transitions with clean bridges, and configures books so the chosen method is followed fully — giving founders numbers that mean what they think they mean.