Introduction
When managing finances in Australia, understanding the tax method of accounting is crucial for businesses, sole traders, and even individuals earning business income. Choosing the right method impacts how and when your income is reported and expenses are deducted, ultimately affecting your tax liability and cash flow management.
In this article, we will explain:
The cash and accrual methods of tax accounting
How to accrue taxes correctly
Whether accrued expenses are deductible under Australian tax law
Why engaging a personal accountant in Melbourne, tax accounting specialists, or registered tax agents is beneficial for compliance and tax efficiency.
What is the Tax Method of Accounting?
In Australia, two primary methods are recognised for tax purposes: cash basis and accrual basis.
1. Cash Basis Accounting
Under the cash basis, income is reported in your tax return when received, and expenses are deducted when paid.
Example:
If you issued an invoice to a client in June but they paid in July, you include it in your income for July.
Who uses this method?
Sole traders
Small businesses with simple cash flow
Entities with turnover under $10 million that prefer simplicity
This method is straightforward because it aligns with your bank transactions. However, it might not provide the most accurate picture of your business profitability for the financial year as income and expenses may fall into different periods.
2. Accrual Basis Accounting
The accrual method records income when earned, even if not yet received, and expenses when incurred, regardless of payment.
Example:
If you completed services in June and invoice your client but they pay in July, you will report that income for June under accrual accounting.
Who uses this method?
Larger businesses
Entities registered for GST with turnover above $10 million (as required by the ATO)
Businesses wanting a more accurate financial performance overview
Accrual accounting matches income to related expenses in the same period, providing a true reflection of profitability and obligations.
How to Accrue for Taxes?
Accruing taxes involves recording liabilities and expenses when they arise, not just when cash is paid out. Businesses accrue for taxes by:
Recording GST payable on invoices issued but not yet paid by customers (for GST-registered entities on accrual basis).
Recording PAYG withholding obligations as employees earn wages, not only when paid to the ATO.
Estimating income tax liabilities at the end of the financial year based on income earned.
Accrual entries are made in your accounting software or ledger, ensuring your financial reports align with ATO requirements and present an accurate snapshot of your business position.
Are Accrued Expenses Tax Deductible in Australia?
Yes. Under Australian tax law, accrued expenses are generally tax deductible in the year they are incurred, provided:
They relate to that income year
The expense is properly incurred, not merely anticipated
You have documentation to substantiate the liability
Example:
You receive a supplier invoice dated June 25 for services already delivered, but you pay it in July. Under accrual accounting, this expense is deductible in June’s financial year because it was incurred then.
Exceptions & Special Considerations
Prepaid expenses: These may have specific rules limiting immediate deductions if the service period exceeds 12 months.
Capital expenses: Must be depreciated over their effective life rather than immediately deducted.
Contingent liabilities: Cannot be deducted if the expense is not sufficiently definite.
Consulting a tax return accountant in Melbourne ensures your deductions comply with the Income Tax Assessment Act 1997 and avoid issues during ATO audits.
Which Method Should You Choose?
For Sole Traders and Small Businesses
Cash basis is often simpler, especially if your business income is under the GST threshold ($75,000) and you wish to match tax payments with actual cash received.
Accrual basis is beneficial if you invoice clients on credit terms and want your financial statements to reflect income as it is earned rather than received.
For Larger Businesses
Accrual accounting is mandatory for GST reporting if turnover exceeds $10 million. It also ensures compliance with financial reporting standards and accurate tax calculations for end-of-year returns.
How Can Tax Professionals Help?
Choosing between cash and accrual methods and correctly claiming deductions requires expert guidance. Engaging:
A personal accountant in Melbourne ensures individual business income is reported accurately, maximising tax efficiency.
Tax accounting specialists in Melbourne can assist businesses with compliance, GST/BAS lodgement, and accrual calculations.
The best tax agents and income tax accountants ensure timely lodgement, deduction optimisation, and correct tax method application.
For sole traders, a sole trader accountant ensures your reporting obligations are met without overcomplicating your cash flow management.
Benefits of Professional Tax Support
Avoid ATO penalties for incorrect reporting
Maximise allowable deductions, including accrued expenses
Ensure your business complies with Australian accounting standards and tax law
Receive strategic tax planning to reduce liabilities
Save time on complex accrual adjustments and compliance
Final Thoughts
Choosing the right tax method of accounting – cash or accrual – impacts your financial reporting, tax obligations, and business decisions. While cash basis is straightforward, accrual accounting provides a clearer picture of business performance and aligns income with related expenses.
Key Takeaways
Accruing taxes ensures liabilities are recorded in the correct period.
Accrued expenses are deductible in the income year they are incurred, not just when paid.
Consulting with a qualified tax agent, personal accountant, or business advisor in Melbourne ensures compliance, optimal deductions, and peace of mind.
About Us
KPG Taxation is a team of registered tax agents, accountants, and business advisors serving Melbourne and Australia-wide businesses and individuals. From tax return lodgements to complex accrual accounting and GST/BAS compliance, we ensure you stay ahead with accurate advice tailored to your goals.
