Two types of accounting methods exist in the business environment: cash basis and accrual. The cash basis method recognizes and records financial transactions when cash changes hands between parties. Accrual accounting recognizes and records financial transactions as they occur, regardless of when cash changes hands during the transaction.
Application of Accounting Methods
The cash model is only acceptable for smaller businesses for which a majority of transactions occur in cash and the use of credit is minimal. Smaller businesses often use cash basis accounting because it is an easier accounting method. Larger companies commonly use accrual accounting because it is required in many industries and by government agencies.
An important feature of cash basis accounting is that it keeps an accurate record of the company’s cash flow. This record ensures companies have enough capital to pay normal business operating expenses. However, cash basis accounting does not maintain an accurate record of sales trends.
Although accrual accounting creates better trends for reviewing and analyzing sales trends or other financial performance, companies may lose track of their cash balances. To rectify this situation, companies usually prepare a statement of cash flows.
Method used by SARS
If you already didn’t know, businesses collect VAT on behalf of SARS on the goods or services that they sell. At some time, depending on the setup of the business, they become liable to pay this VAT collected to SARS.
If your business is using the invoice basis of accounting, it becomes liable for VAT once an invoice is sent for sales that the business makes. So, even if the company hasn’t received payment for a sale that has been made, it will still be liable to pay for the VAT charged on that sale if an invoice has been raised and sent to a customer/client.
Your business may also use the cash basis of accounting. Under this basis, a business only becomes liable for VAT on sales it makes when it receives payment for that sale and not before.
As VAT is also an invoice based tax, vendors are generally required to account for VAT on the invoice (accrual) basis, but the payments (cash) basis is allowed in some cases. For example, natural persons with a taxable annual turnover of under R2 500 000 as well as public authorities and municipalities are allowed to account for their VAT on the payments basis. Other legal entities such as companies and trusts do not qualify for the payments basis of accounting.