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C H A P T E R

Bases of Accounting

MEANING OF KEY TERMS USED IN THE CHAPTER

1. Cash Basis of Accounting It is a system of accounting according to which transactions are
recorded in the books of account when cash is transacted, whether
received or paid.
2. Accrual Basis of It is a system of accounting according to which transactions are

Accounting recorded in the books of account when a transaction is entered into
irrespective of cash having been received or not.
3. Outstanding Expenses These are expenses which have been incurred during the accounting
period but have not yet been paid. In the Balance Sheet, they are shown
as liability.
4. Prepaid Expenses These are expenses which have been paid in advance. In the Balance
Sheet, they are shown as an asset.
5. Accrued Income It is an income which has been earned during the accounting period
but has not yet become due for payment and, therefore, has not been
received. In the Balance Sheet, it is shown as an asset.
6. Income Received It is an income which has been received before it has been earned,
in Advance i.e., goods have been sold or services have been rendered. In the Balance
Sheet, it is shown as a liability.
Note: Terms at serial numbers 3, 4, 5 and 6 will appear when accrual basis of accounting is followed.

CHAPTER SUMMARY

• Bases of Accounting. For recording financial transactions, there can be three broad approaches to accounting.
These are:
1. Cash Basis, 2. Accrual Basis, and 3. Hybrid Basis.
• Cash Basis of Accounting. A system in which accounting entries are made only when cash is transacted,
whether received or paid.
• Accrual Basis of Accounting. A system in which accounting entries are made on the basis of amounts
having become due for payment or receipt.
Outstanding expenses, prepaid expenses, accrued income and unearned income are adjusted while preparing
the Financial Statements.