Accrual Basis
Recognizing revenues when earned and expenses when incurred, regardless of cash timing.
FAR loves to test this with a cash-to-accrual conversion: you’re handed cash collected or paid and asked for the GAAP figure. The tell is changes in working capital accounts—add the increase in accounts receivable and the decrease in unearned revenue to convert cash receipts to revenue; for expenses, add the increase in accrued liabilities/payables plus prepaid drawdowns (decreases in prepaid assets). The answer hinges on the revenue recognition trigger—under ASC 606’s five-step model, recognize when a performance obligation is satisfied, i.e., control transfers (the loose “earned” wording traces to the superseded ASC 605/SAB 104 rule)—and the period an expense is incurred, never when cash moves. Watch the trap where an item is paid but unearned: it stays on the balance sheet as a liability, not the income statement.
Don’t conflate the related ideas: accrual basis is the overall measurement system, the matching principle the narrower rule routing expenses to revenue-producing periods, and deferrals the adjusting entries that postpone already-moved cash. Hook: accruals book it before the cash, deferrals after—cash leads the deferral, lags the accrual.
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