How to allocate costs and revenues through the cash principle
The cash principle is of fundamental importance for tax returns and the calculation of taxable income. It, in fact, consists of a tool for managing receipts and payments for allocation in the financial statements.
But what is it and how does this accounting principle work? Let's find out together in this article!
What is the cash principle?
The cash regime or cash principle is a criterion for allocating expenses and revenues in the annual financial statements. The purpose of the cash principle is to enable the determination of taxable income.
The special feature of the cash principle is to determine the allocation of only those costs and revenues collected or paid during a reporting period (corresponding to the calendar year). In other words, under the cash principle, only those records that have undergone a financial event during the same fiscal year are imputed.
For example, the cash principle includes in the calculation of income only those invoices that have resulted in a demonstrable movement of money by December 31 of the year under consideration.
Cash principle vs. accrual principle
The cash principle differs from the accrual principle in terms of the type of expenses and revenues to be charged to the financial statements. In fact:
→ the accrual principle determines the obligation to record transactions related to the tax period in which they occurred, regardless of whether financial events are paid to them.
→ the cash principle, on the other hand, determines the obligation to record only transactions related to the tax period in which they occurred only if the relevant financial manifestations are paid for them.
For anyone applying the accrual principle, the tax period that includes the date on which the transaction of the sum of money occurred applies. This can correspond to:
- The delivery or shipment for movable goods;
- The signing of the contract for immovable goods;
- The accrual of consideration for services.
For anyone using the cash principle, however, the tax period that includes the time of actual receipt applies. Revenues already collected can be a consequence of:
- Cash payments: in this case there is no problem regarding the date on which the transaction begins to be valid, because the fees reach the recipient when the money is transferred.
- Payments by check, bank transfer, credit or debit card: gives validity the date on which the money is available in the account and can be used.
Who can adopt the cash principle?
Accounting requirements and obligations
As a rule, the cash principle is adopted by accountants under the simplified system, but all professional persons who:
- Are engaged in business, arts or professions;
- In the previous year they obtained a turnover not exceeding 2 million euros.
👀 In the case of business start-up, something subjects expect not to achieve a turnover of more than 2 million euros.
- They carry out taxable supplies of goods or services to transferees or customers in the territory of the State who are themselves active in business, arts or professions.
☝ With the new Budget Law, the possibility of applying the cash principle has been included by artisans, traders and, in general, all small VAT accounts in simplified accounting.
→ The application of the cash principle is also allowed for smaller businesses through integrated VAT registers.
In this case, however, it is necessary to record income and expenses accompanied by the respective invoices issued. In addition, it is mandatory to record out-of-vat expenses and invoices that have not yet been paid. This application case also requires recording transactions related to invoices that have not yet been raised.
👀 Information on income and expenses is recorded in the VAT registers for the tax period in which the receipts and payments occur.
So-called moniti businesses may also adopt the cash principle:
- Sole propriet orships or self-employed persons with VAT numbers,
- Business entities,
- Partnerships
Which are subject to certain turnover limits, viz:
- 400,000 euros for businesses engaged in the provision of services;
- 700,000 euros for businesses engaged in other activities.
The obligations are developed in the form of three alternatives regarding the records to be kept:
- Records of receipts and payments;
- VAT registers only.
👀 In this case it is necessary to make a separate addition with the indications of transactions that are not subject to registration for VAT purposes.
- Only VAT registers with presumption of receipt and payment.
👀 In this case it is possible to avoid annotations involving payments and receipts, but it is necessary to annotate transactions that are not subject to registration for VAT purposes.
Cash principle: does it pay off?
The cash principle may be more advantageous than the accrual principle, but why? Well, as we have seen, the cash principle allows you to charge only those costs and revenues that have had an actual financial manifestation within the financial year, that is, in the calendar year of reference.
In this way, only those costs and revenues are considered that have actually been the subject of cash receipts or disbursements, i.e., transactions during the tax period. This results in a major simplification in the financial statements.
The cash principle is, in practice, convenient for anyone who has a business activity that allows him or her to make immediate cash receipts, for example: restaurant activities, retail stores and boutiques, as well as activities that involve progressive payment to suppliers.
Article translated from Italian