Cash vs. Accrual Accounting: The Choice That Changes Your Tax Timing

A lot of business owners treat their accounting method like plumbing. Someone set it up years ago, it still seems to work, so nobody touches it.

But your method decides which year your income and expenses land on your tax return. It doesn't change what you earn. It changes when you're taxed on it.

The Difference in One Example

Cash method: income counts when the money arrives. Expenses count when you pay them.

Accrual method: income counts when you've earned it, usually when the work is done or the payment is due. Expenses count when you owe them.

Say you send a client a $20,000 invoice on December 31, and they pay in February.

On accrual, that $20,000 is taxed this year.
On cash, it's taxed next year.

Same work. Same money. Different tax year.

One catch on the cash method: a check that arrives December 31 counts as this year's income, even if you don't deposit it until January.

The Rule Most Owners Still Believe

A lot of owners are on accrual because someone told them, "You carry inventory, so you have to use accrual." That used to be true.

The rules changed, and many small businesses now have more flexibility than they realize.

Since 2018, a business can generally use the cash method, even with inventory, if its average annual gross receipts for the prior three years are under a limit. For tax years beginning in 2026, that limit is $32 million.

A few things to know about that test:

Gross receipts means your total receipts, not your profit.
If you own more than one business, you may have to add them together.
It's a three-year average, so check it each year as you grow.

Inventory still isn't always deducted the day you buy it. Under the most common approach, its cost is deducted in the year you sell it or pay for it, whichever is later. A second option tied to your own books can sometimes allow it sooner.

The main exceptions: a business that counts as a tax shelter can't use the cash method at any size, and a C-Corp over the $32 million limit generally can't either. An LLC, partnership, or S-Corp can be treated as a tax shelter in any year it has a loss and more than 35% of that loss goes to owners who aren't active in the business.

Which Method Fits

Cash usually fits if you run a service business, carry little inventory, want simpler books, or often pay costs before clients pay you.

Accrual usually fits if you carry a lot of inventory, sell on credit, collect before you deliver (like a subscription business), or plan to borrow or bring in investors.

Your books don't have to match your return. Many businesses keep accrual books to see their real monthly profit and still file on the cash method, as long as the records reconcile.

Switching Methods

You can't just start using a different method. A change is filed on IRS Form 3115, and for most small businesses, moving from accrual to cash is an automatic change with no IRS fee. It takes effect on the first day of a tax year, so you're choosing a year, not a date.

The switch comes with a one-time catch-up adjustment so income isn't counted twice or skipped. If that adjustment adds income, it's generally spread over four years. If it lowers your income, as it usually does when a business with a lot of unpaid invoices switches to cash, you generally take the whole reduction in the year you switch.

Switching without filing the form is risky. The IRS can put you back on your old method and make you take the whole adjustment at once.

Before December 31

Ask one question: Are we on the right accounting method for how this business actually operates?

On the cash method, money that arrives after December 31 is next year's income, and bills you pay by December 31 are this year's deductions. If a switch to cash makes sense, it can still apply to 2026 when the return is filed, so ask now, while there's time to run the numbers.