What is the key principle of the accrual basis of accounting?

• A. Revenue is recognised when earned and expenses when incurred, regardless of cash flow.
• B. Revenue is recognised when cash is received and expenses when cash is paid.
• C. Revenue and expenses are recognised only when cash exchanges hands.
• D. Only expenses are recognised when incurred.

Answer: (A)

Accrual accounting records revenue when it is earned and expenses when they are incurred, regardless of when cash actually moves. This means if you perform a service or deliver goods in a period, you recognize the revenue in that period, even if you haven’t yet received payment. Likewise, you record an expense when the obligation arises or the service/goods are consumed, even if you haven’t paid the bill yet. This approach keeps the income statement aligned with the period’s actual economic activity and shows receivables and payables on the balance sheet.

For example, if you complete work in December but get paid in January, revenue appears in December. If you receive a utility bill in December but pay it in January, the expense appears in December. The other descriptions describe recognizing revenue and expenses only when cash moves, which is cash basis, and that does not reflect when the business actually earns income or incurs costs. Only recognizing expenses when incurred is incomplete because revenue would also need to be recognized when earned.