Cash Method of Accounting

Cash Method of Accounting is a simple and widely used method for determining profits, which is mainly used by small businesses, the self-employed and freelancers. In contrast to double-entry bookkeeping, the Cash Method of Accounting offers an uncomplicated method of recording income and expenses for a financial year and thus determining the taxable profit.

What is a Cash Method of Accounting?

Cash Method of Accounting is a simple procedure for determining profits that is mainly used by small businesses, the self-employed and freelancers. In contrast to double-entry bookkeeping, in which all business transactions must be recorded twice (debit and credit), the Cash Method of Accounting is based on a comparison of operating income and operating expenses within a financial year.

Here are the main features of the Cash Method of Accounting:

Simplicity: the Cash Method of Accounting is less complex than double-entry bookkeeping, and therefore easier to handle. It does not require the preparation of balance sheets or profit and loss accounts.
Time of recording: Income and expenditure are recorded at the time of the actual cash flow (inflow-outflow principle). This means that an income is only recognized when the money is actually received in the account, and an expense is only recognized when the money flows out.
Purpose: Cash Method of Accounting is used to determine the taxable profit resulting from the difference between operating income and operating expenses. This profit is then subject to income tax.
Scope of application: The Cash Method of Accounting is primarily intended for taxpayers who are not obliged to keep double-entry accounts, such as small businesses, freelancers and sole traders whose annual turnover or profit does not exceed certain legal limits.
Legal basis: The legal provisions on the Cash Method of Accounting can be found in Section 4 (3) of the Income Tax Act (EStG) in Germany.

Cash Method of Accounting is therefore an efficient method for smaller companies to meet their tax obligations without having to deal with the complexity of double-entry bookkeeping.

Advantages of a Cash Method of Accounting

The Cash Method of Accounting offers a number of advantages, especially for smaller companies, self-employed and freelancers. Here are the most important advantages.

Simplicity and user-friendliness
- Less effort: Cash Method of Accounting is easier to use than double-entry bookkeeping. It does not require extensive accounting knowledge.
- Less bureaucracy : There are fewer formal requirements and documentation obligations compared to accounting.
Cost efficiency
- Lower costs : As Cash Method of Accounting is less complex, the costs for bookkeeping and tax advice are generally lower.
- No special accounting programs required: Cash Method of Accounting can be carried out using simple spreadsheets or standard accounting programs.
Time saving
- Quick preparation: The profit calculation can be carried out more quickly as less data needs to be recorded and processed.
- Less evidence: Less evidence and documentation needs to be prepared for the tax office.
Flexibility
- Inflow and outflow principle: Income and expenses are only recorded when cash flows actually occur, which makes liquidity planning easier.
- No accrual basis: It is not necessary to defer income and expenses to the financial year in which they were economically generated.
Tax advantages
- Simple determination of profit: Profit is determined by the difference between income and expenditure, which simplifies the tax return.
- Loss offsetting: Losses can be easily recorded and offset against profits from other years.
Area of application
- Suitable for smaller companies: The Cash Method of Accounting is ideal for small businesses, the self-employed and freelancers who are not required to keep double-entry accounts.
- No obligation to keep accounts : Companies below certain turnover and profit limits are not obliged to keep accounts and can use the Cash Method of Accounting.
Transparency and traceability
- Clarity : The method is easy to understand and provides a clear overview of the company's actual cash flows.
- Simple overview: Entrepreneurs get a quick overview of their company's financial situation.

Similar Financial Lexicon Topics:

Turnover
Turnover Tax
Liquidity
Taxable Income

Back to the Financial Lexicon

Who must or may prepare a Cash Method of Accounting?

The Cash Method of Accounting may be used by certain taxpayers who are not required to keep double-entry accounts. The Cash Method of Accounting offers a simple and practicable way of determining profits for smaller companies and the self-employed. Here are the most important groups that must or may use Cash Method of Accounting and who is obliged to keep double-entry accounts:

Category	Description	Must / May Cash Method of Accounting	Must Double-Entry Bookkeeping
Freelancers	Self-employed persons and freelancers who are not required to keep accounts	Mandatory Cash Method of Accounting	No
Small businesses and freelancers	Entrepreneurs with an annual turnover of less than 600,000 euros and a profit of less than 60,000 euros	Must keep Cash Method of Accounting	No
Sole traders and partnerships	Entrepreneurs who do not exceed the turnover and profit limits	Must Cash Method of Accounting	No
Small businesses in accordance with Section 19 UStG (German Law)	Entrepreneurs with an annual turnover of less than EUR 22,000 and expected to be less than EUR 50,000	Permitted Cash Method of Accounting	No
Corporations (German GmbH, AG)	Corporations regardless of turnover or profit	No	Must keep double-entry accounts
Large sole traders and partnerships	Entrepreneurs with an annual turnover of over 600,000 euros or a profit of over 60,000 euros	No	Must keep double-entry accounts

Cash Method of Accounting Formula & Calculation

The Cash Method of Accounting (Cash Method of Accounting) is used to determine profits for small businesses, freelancers and the self-employed who are not required to keep double-entry accounts. The profit is calculated by simply comparing income and expenditure. Here is the formula and the steps for the calculation:

Formula for calculating profit

Profit = Operating Income - Operating Expenses

Steps for the calculation

Record the operating income:
- All income generated as part of the business activity is recorded.
- Examples: Sales revenue, fees, rental income.
Recordingoperating expenses:
- All expenses related to operating activities are recorded.
- Examples: Cost of materials, rental costs, wages, office supplies, insurance.
Calculating the surplus (profit):
- The profit is calculated by deducting the operating expenses from the operating income.

Cash Method of Accounting Example

Assume a small business owner has the following income and expenses in the financial year:

Revenue:

Sales revenue: € 30,000
Fees for services: € 15,000

Expenditure:

Cost of materials: € 10,000
Rent: € 5,000
Wages: € 8,000
Office supplies: € 2,000
Insurance: € 1,000
Depreciation and amortization: € 2,000

Calculation of the profit:

Total income: € 30,000 + € 15,000 = € 45,000
Total expenditure: € 10,000 + € 5,000 + € 8,000 + € 2,000 + € 1,000 + € 2,000 = € 28,000
Profit: € 45,000 - € 28,000 = € 17,000

In this example, the profit is € 17,000.

Important terms for the
Cash Method of Accounting

terms for the Cash Method of Accounting

Term	Meaning
Cash Method of Accounting	A simple procedure for determining profit, in which the difference between income and expenditure is calculated.
Income	All money received in the context of self-employment.
Expenditure	All cash outflows in connection with the self-employed activity.
Business Assets	All assets that are assigned to the business.
Profit Calculation	The process of calculating taxable profit by comparing income and expenditure.
Revenue Surplus	The difference between operating income and operating expenses, which represents the profit or loss.
Operating Income	All income generated by operating activities.
Operating Expenses	All expenses that are caused by operating activities and are deductible.
Depreciation	Allocation of the acquisition or production costs of an asset over its useful life.
Fixed Assets	Assets that serve the business in the long term and are not intended for sale.
Current Assets	Assets that are intended for sale or are used in the business in the short term.
Tax Free Amount	An amount that can be deducted from taxable income to reduce the tax burden.
Business Tax	Taxes arising from business activities, e.g. sales tax.
Sales Tax	Tax on the sale of products and services, which is usually paid to the tax office.
Private Withdrawals	Withdrawals of money or material assets from business assets for private purposes.
Private Assets	Assets that are not allocated to the business but to the private sphere.
Taxable Profit	The profit determined by the Cash Method of Accounting, which is subject to income tax.
Special Expenses	Certain expenses that are tax-deductible, such as insurance premiums or donations.
Loss Carry-Back	Possibility of offsetting losses against profits from previous years.
Loss Carryforward	Possibility of carrying forward losses to future years and offsetting them against future profits.

This table provides an overview of the most important terms in connection with the Cash Method of Accounting and their meanings.

Form for Cash Method of Accounting

The Cash Method of Accounting form is a standardized document provided by the tax office. It must be submitted together with the income tax return. The form is divided into several sections, in which the various types of income and expenses must be recorded in detail. Here is an overview of the main sections and contents:

Overview: Structure of the Cash Method of Accounting

The following diagram shows the structure of the Cash Method of Accounting at a glance:

Explanation: Cash Method of Accounting Structure

The following is a brief explanation of the Cash Method of Accounting structure.

General Information

The taxpayer's personal data must be entered in this section, for example a company (name, address, tax number).

Business Income

All operating income is entered here, e.g. sales revenue, income from services, rental income.

Operating Expenses

This section is divided into different categories, e.g. material costs, personnel expenses, rent, depreciation, other operating expenses.

Determination of Profit

The determination of profit is a calculation of the profit as the difference between operating income and operating expenses.

Other Information

Additional information can be entered here, e.g. details of reserves, tax deductions.

Example of a completed Cash Method of Accounting Form

This table will help you to keep track of the individual steps and contents of the Cash Method of Accounting and to complete the form correctly.

Operating income	Sales revenue	Income from sales	€ 30,000
	Revenue from services	Revenue from services	€ 15,000
Total revenue	Total income	Total revenue	€ 45,000
Operating expenses	Material costs	Costs for material purchases	€ 10,000
	Rent	Rental costs for business premises	€ 5,000
	Wages	Wage costs for employees	€ 8,000
	Depreciation and amortization	Distribution of acquisition or production costs over the useful life	€ 2,000
	Other operating expenses	Other operating expenses (e.g. office supplies, insurance)	€ 3,000
	Total expenditure	Total of expenditure	€ 28,000
Profit calculation	Profit	Difference between total income and total expenditure (€ 45,000 - € 28,000)	€ 17,000

What are the special features of the Cash Method of Accounting?

There are some special features of the Cash Method of Accounting that must be taken into account when implementing and applying it. Here are the most important ones:

Inflow and outflow principle
The inflow and outflow principle states that income and expenses are recognized in the calendar year in which they are actually received or paid. This principle differs from the accrual principle used in double-entry bookkeeping, in which income and expenses are allocated to the period in which they were economically generated. This principle simplifies handling, but can also lead to special features:
- Recurring payments: Regular income or expenses that are due shortly before or after the turn of the year can be recognized in the year in which they are economically incurred if they are incurred within ten days before or after the end of the year.
Depreciation and amortization
- Depreciation: Assets that are used for a longer period of time cannot be immediately deducted in full as an expense. Instead, their acquisition or production costs are depreciated over their useful life. This means that a portion of the cost is recognized as an expense each year.
Investment deduction amount
- Investment deduction amount (IAB): Small and medium-sized enterprises can deduct up to 40% of the expected acquisition costs of certain assets in advance as a business expense in order to reduce their tax burden. The investment must be made within three years of the deduction.
Hospitality costs
- Entertainmentcosts: Only 70% of the costs of entertaining business partners can be deducted. There must also be detailed documentation showing the business occasion and the participants.
Driver's logbook
- Logbook method: When using a company vehicle, the actual costs can only be fully deducted as a business expense if a logbook is kept that documents all journeys in detail.
Determination of profit for secondary income
- Secondary income: If you are self-employed as a secondary occupation, you must record your income and expenses separately. The Cash Method of Accounting is then only carried out for the part-time activity.
Special operating expenses
- Private use shares: In the case of mixed-use assets (e.g. a car), the private usage share must be deducted and taxed privately.
- Additional expenses for meals : For business trips, lump sums for additional expenses for meals can be recognized as business expenses.
Records and receipts
- Obligation to keep rece ipts: All business income and expenses must be substantiated by receipts. These receipts must be kept in an orderly and easy-to-find manner.
- Account management : It is helpful to keep a separate business account in order to separate private and business transactions.
Value added tax
- Debit taxation vs. actual taxation: Small business owners who do not make use of the small business regulation according to § 19 UStG can choose between debit and actual taxation. With debit taxation, the VAT is due when the invoice is issued, with actual taxation only when payment is received.
Loss carry-back and loss carry-forward
- Loss carry-back: Losses can be offset against profits from the previous year to reduce the tax burden.
- Loss carryforward: losses that have not been offset can be carried forward to subsequent years and offset against future profits.

These special features of the Cash Method of Accounting ensure that the method is flexible and adapted to the needs of small and medium-sized companies. However, it is important to pay careful attention to these points in order to avoid mistakes and make the most of tax advantages.

Difference: Cash Method of Accounting & Balance Sheet

This table helps to present the differences between Cash Method of Accounting and Balance Sheet Accounting clearly and concisely.

Criterion	Cash Method of Accounting	Accounting
Complexity	Simpler and less time-consuming	More complex and more time-consuming
Recognition principle	Inflow-outflow principle	Accrual basis
Presentation of results	Profit or loss through difference between income and expenditure	Balance sheet and income statement
Legal basis and obligation	Section 4 (3) EStG German Law, for small companies and freelancers	German HGB, for larger companies and corporations
Time of recognition	At the time of actual cash flow	Allocated to the financial year in which they were economically caused
Changes in inventories	Are not recognized	Are recognized and reported in the balance sheet
Scope of application	Small companies, self-employed and freelancers	Larger companies and corporations
Example Revenue	Payment in January 2024 for service in December 2023 - recognition in 2024	Invoice in December 2023, payment in January 2024 - recognition in 2023
Inventory accounts	Not required	Required, includes assets and liabilities
Level of detail	Less detailed	Very detailed, includes all assets and liabilities

FAQ

When is Input Tax Deduction for Cash Method of Accounting?

With the Cash Method of Accounting, you can claim the input tax deduction in the period in which you received the invoice and actually paid the input tax.

How do I post Cash Methods of Accounting?

With Cash Method of Accounting, you post income and expenses at the time of the actual cash flow, i.e. when the money enters or leaves your account.

How is profit determined according to the Cash Method of Accounting?

The profit according to the Cash Method of Accounting is determined by deducting the operating expenses from the operating income.

When to switch from Balance Sheet to Cash Method of Accounting?

You can switch from balance sheet to Cash Method of Accounting if you are no longer required to keep accounts and fall below the turnover and profit limits.