An accounting method that involves recognition of income as earned and expenses as incurred irrespective of actual cash flows, in or out. In other words, such items are recorded when a transaction takes place rather than when payment is received or made. The accrual accounting method is based on the matching principle, which entails that revenues and expenses should be recognized in the same period.

For example, an entity would record revenue when an item of inventory is sold, rather than when it gets paid by the buyer. The accrual accounting method gives a more realistic idea about an entity’s income and expenses during a period of time. It, therefore, provides a long-term picture of an entity’s business and operations. However, it doesn’t provide any details about cash flows; an entity may seem to be very profitable while in reality it has no cash flows to dispense with.

Given its shortcomings, accrual basis accounting has to be accompanied with careful observation of cash flows, least an entity potentially face dramatic consequences.

Accrual accounting (accrual basis) is more commonly used than cash accounting (cash basis).