Newly Expanded Cash Method of Accounting for Mid-Sized Businesses

One of the hidden gems in the tax reform legislation was the expansion of the “cash” method of accounting rules so they are available to more taxpayers. In general, the cash method of accounting allows a business to account for income when received, and expenses when paid. This should be contrasted with the “accrual” method of accounting, where revenue and expenses are generally recognized when all events have occurred to fix the right to the income or the obligation to pay, and the amounts are determinable with reasonable accuracy. Using the cash method can be a huge benefit to businesses with substantial accounts receivable, as it can allow the deferral of income tax until the accounts are collected.

Under old law, corporations or partnerships with corporate partners generally could only use the cash method if they had average annual gross receipts for the prior three years of less than $5 mil. For farming businesses, this criteria was generally lowered to $1 mil. of revenue.  Taxpayers with inventories of items held for sale were generally limited based on a $1 mil. revenue threshold.

Under the new tax reform legislation, all taxpayers may generally use the cash method of accounting as long as their annual average gross receipts for the prior three tax years is under $25 million. Taxpayers with inventories are included in this rule. It should be noted that cash method taxpayers with inventories held for sale generally still cannot deduct merchandise costs until the goods are sold, but are permitted simplified inventory costing methods.

If your business is currently using the accrual overall method of accounting, talk to us, or consult with your tax advisor to determine if you might be eligible to change your method of accounting. In general, fine-tuning business methods of accounting is one of the most overlooked areas of managing your income tax liabilities – make sure you’re taking full advantage of all the accounting methods possible!