Tax Basis

An entity’s selection of an accounting method is of primary importance as this election will continues in force until either a business is required to change by tax law or formally requests in advance a “determination letter” from the IRS. Both issues will cause additional administrative burdens and fees on a business so it is important that an initial selection is made correctly. Seeking a determination letter from the IRS requires a detailed application, fees, timely filing, compliance, and scrutiny which otherwise might not be required if the correct initial selection is made.

Cash Basis

Many service businesses opt to file their tax returns on a cash basis, which results in a client not paying taxes on their accounts receivable or deducting their accounts payable until paid. This is especially advantageous for profitable businesses that qualify, since they will not bear the additional tax burden of paying taxes on billed but yet still uncollected accounts receivable. Often cash needs of a rapidly growing business put an inordinate strain on the availability of funds, and the selection of this method will greatly help as it is very difficult to pay taxes on monies one has not yet collected.

Accrual Basis

IRS tax law requires a business over a certain revenue size to convert over to an accrual basis of accounting resulting in the recording and reflection of a company’s accounts receivable, inventory, accounts payable and other timing/accrual items. Tax law also precludes a company from deducting inventory until it is sold necessitating reporting on an accrual basis. Also care should be given when reporting on an accrual basis to be sensitive to tax law surrounding Section 263A costs which requires companies to allocate overhead expenses to existing inventory balances.

Tax law allows/requires the use of several other types of accounting methods. At HIS CPA, P.C. we work with clients each and every day to ensure that you pay your lowest legal possible tax while being sure not to run afoul of IRS rules and regulations. Contact us today for more information.