Cash Basis Accounting – Tips & Traps

Farmers are included among a select few taxpayers who are allowed to utilize the "cash method" of accounting for tax purposes. The vast majority of taxpayers are required to use the "accrual method."

Most professionals view the ability to utilize the cash method of accounting for tax purposes as an opportunity. In general, I agree; however, be warned that if mismanaged or abused, the cash method could prove to be very costly in the end.

Simply defined, under the cash method you are required to include income in the year it is actually received and deduct expenses in the year that they are paid. You are not required to include as income amounts owed to you at the end of the year (accounts receivable), nor are you allowed to deduct expenses incurred that have not been paid (accounts payable). On top of that, you are not required to record your change in inventory as an income or expense item for the year.