CLASS 11 — ACCOUNTANCY

Chapter 4: Bases of Accounting

T.S. Grewal's Double Entry Book Keeping — Financial Accounting | Quick Revision Notes

Learning Objectives
• Meaning of Bases of Accounting
• Cash Basis of Accounting — meaning, features, merits, demerits
• Accrual Basis of Accounting — meaning, features, merits, demerits
• Difference between Cash Basis and Accrual Basis of Accounting
• How to solve numerical problems converting Cash Basis income/expense to Accrual Basis (very important for exams)

1. Let's Start With a Story (Explained Very Simply)

Imagine you have a small lemonade stand. You sell lemonade every day and also buy sugar, lemons and cups. Now, you want
to write down, in your little notebook, how much money you made. There are TWO different ways children (and businesses!)
can write this down. These two ways are called 'Bases of Accounting'.

Illustration
On 28th March, you sell lemonade worth ₹100 to your friend Raju. But Raju says, "I don't have money today, I
will pay you next week."
Question: Do you write ₹100 in your notebook TODAY (28th March) or NEXT WEEK when Raju actually pays
you?
Your answer to this question decides which 'basis of accounting' you are using!

If you write it down only when you ACTUALLY get the cash (next week) — that is called the CASH BASIS.
If you write it down TODAY itself, the day you sold the lemonade (even though cash has not come in yet) — that is
called the ACCRUAL BASIS.

2. Meaning of 'Basis of Accounting'

A 'Basis of Accounting' is simply the RULE or the POINT IN TIME that a business follows to decide when to record income
(revenue) and expenses in its books of account.

Simple Definition (write this in exam)

Basis of Accounting refers to the method/timing followed by a business to record its transactions of income and
expenditure in the books of account.

There are mainly TWO bases of accounting recognised by CBSE/T.S. Grewal syllabus (a third one, Hybrid/Mixed Basis, is
also mentioned as extra knowledge):
• (1) Cash Basis of Accounting
• (2) Accrual Basis of Accounting (also called Mercantile Basis)
• (3) Hybrid / Mixed Basis of Accounting (combination of both — extra info)

3. Key Terms You MUST Know First (Building Blocks)

Before understanding Cash Basis and Accrual Basis properly, you must understand these 4 simple terms. Every numerical
question in this chapter uses these words, so do not skip this.
• Outstanding Expense: An expense that has become due (i.e., the benefit has already been taken) but has NOT yet been
paid in cash.
 Example: Shop rent for March is ₹5,000. You used the shop the whole of March, but you have not paid the rent
yet. This ₹5,000 is 'Outstanding Rent' — expense incurred, cash not yet paid.

• Prepaid Expense: An expense that has been PAID in cash in advance, but the benefit of which will be received in a
future period.

Example: On 1st January you pay ₹12,000 as one full year's insurance premium for your shop. By 31st March (end
of the 3-month period you are accounting for), only ₹3,000 relates to this period. The remaining ₹9,000 is 'Prepaid
Insurance' — cash paid, but benefit not yet used up.

• Accrued Income (Income Outstanding): Income that has been EARNED but has NOT yet been received in cash.

Example: You lent ₹10,000 to a friend on interest. Interest of ₹500 has become due for this month, but your friend
has not paid you yet. This ₹500 is 'Accrued Interest' — income earned, cash not yet received.

• Income Received in Advance (Unearned Income): Income that has been RECEIVED in cash but has NOT yet been
earned (service/benefit not yet given).

Example: Your tenant pays you ₹6,000 in March as rent for April. You have received the cash in March, but you
have not yet 'earned' it because April has not started. This ₹6,000 is 'Rent Received in Advance'.

EXAM TIP
Outstanding = 'due but not paid/received' (relates to EXPENSE not paid or INCOME not received)
Prepaid/Advance = 'already paid/received but not yet used/earned'
These four items are the ONLY reason cash basis profit and accrual basis profit are different from each other!

4. Cash Basis of Accounting

Definition (write this in exam)
Under the Cash Basis of Accounting, entries are recorded ONLY when cash is actually received or actually paid.
Income is recorded when cash is received (not when it is earned) and expense is recorded when cash is paid (not
when it is incurred).

In simple words: 'No cash movement = No entry in the books.' It does not matter when the sale happened or when the expense
was actually due — what matters is only WHEN money physically moved.

Illustration
Rent for March ₹5,000 is still unpaid on 31st March (i.e., it is 'outstanding').
Under Cash Basis: This ₹5,000 will NOT be shown as an expense of March at all, because no cash has been paid.
It will be recorded only in the month it is actually paid, say April.

Features of Cash Basis

• Records only actual cash receipts and actual cash payments.
• Outstanding and Prepaid expenses are NOT recorded/adjusted.
• Accrued and Advance income are NOT recorded/adjusted.
• Simple to maintain; commonly used by professionals (doctors, lawyers, CAs) and small shopkeepers.

Advantages of Cash Basis

• Very simple and easy to understand and maintain.
• Suitable for small businesses/professionals with mostly cash transactions.
• Not affected by estimates or judgement (no guessing of outstanding items).

Disadvantages of Cash Basis

• Does NOT show the true and fair picture of profit/loss, because outstanding and prepaid items are ignored.
 • Does NOT follow the Matching Principle (expenses of a period are not matched with revenues of the same period).
• Not recognised/accepted under the Companies Act, 2013 or by Accounting Standards for companies.
• Chances of manipulation of profit exist (a business can simply delay a payment to change the reported profit of a
period).

5. Accrual Basis of Accounting (Mercantile Basis)

Definition (write this in exam)
Under the Accrual Basis of Accounting, entries are recorded when income is EARNED and expense is
INCURRED, irrespective of whether cash has actually been received or paid. Outstanding and prepaid items are
recorded and adjusted.

In simple words: 'Record it when it happens, not when the cash moves.' This basis follows the famous Matching Principle —
expenses of a period are matched against the revenue of the SAME period.

Illustration
Rent for March ₹5,000 is still unpaid on 31st March.
Under Accrual Basis: This ₹5,000 WILL be shown as an expense (Rent) for March itself, along with a liability
called 'Outstanding Rent', even though cash has not yet been paid.

Features of Accrual Basis

• Records income when earned and expense when incurred — cash movement is irrelevant to the timing.
• Outstanding, Prepaid, Accrued and Advance items are all recorded and adjusted.
• Based on the Matching Principle / Accrual Concept of Accounting.
• Mandatory for all companies registered under the Companies Act, 2013 and required by Accounting Standards (AS-1).

Advantages of Accrual Basis

• Shows a true and fair view of profit or loss for the period.
• Follows the Matching Principle correctly.
• Recognised by law (Companies Act, 2013) and by Accounting Standards; used to prepare Financial Statements.
• Helps in better planning, comparison and decision-making.

Disadvantages of Accrual Basis

• More complex; requires more knowledge, time and estimation (e.g., estimating outstanding amounts).
• Chances of subjectivity/error in estimating accrued and outstanding items.
• Profit shown may not represent actual cash available with the business (business can show high profit but have low cash
in hand).

6. Hybrid / Mixed Basis of Accounting (Extra Knowledge)

This is a combination of both Cash Basis and Accrual Basis. Under this system:
• Incomes are usually recorded on CASH BASIS (recorded only when actually received) — a conservative approach.
• Expenses are usually recorded on ACCRUAL BASIS (recorded as soon as they are incurred, whether paid or not) —
again a conservative approach, since all possible expenses are accounted for.
Used by some professionals and small entities who want to be cautious about not overstating income while still accounting
for all expenses. (Not commonly asked in detail in CBSE exams, but good to know.)
7. Difference between Cash Basis and Accrual Basis of
Accounting
★ This is one of the MOST FREQUENTLY asked questions in CBSE exams (usually for 3 or 4 marks). Learn this
table well.

Basis Cash Basis of Accounting Accrual Basis of Accounting

Records transactions only when cash is Records transactions when income is earned or
Meaning
received or paid. expense is incurred.

Outstanding/
Not recorded/adjusted. Recorded and adjusted.
Prepaid items

Accuracy of profit Does not reflect true profit or loss. Reflects true and fair profit or loss.

Matching
Not followed. Followed.
Principle

Recognised & required under Companies Act,

Legal recognition Not recognised under Companies Act, 2013.
2013 and Accounting Standards.

Suitable for all companies & most business

Suitability Suitable for small traders/professionals.
organisations.

Complexity Simple to maintain. Comparatively complex; needs estimation.

Scope for
More scope (can delay payments/receipts). Less scope (recorded as it occurs).
manipulation
8. Formulas for Converting Cash Basis to Accrual Basis (VERY
IMPORTANT for Numericals)
These numerical questions ask you to convert cash-basis figures (cash received/paid) into accrual-basis figures (income
earned/expense incurred). Use these formulas directly.

FORMULA 1 — To find INCOME on Accrual Basis

Income (Accrual Basis) = Cash Received during the year
+ Income Outstanding at the END of the year (earned now, not yet received)
− Income Outstanding at the BEGINNING of the year (was earned last year)
− Income Received in Advance at the END of the year (belongs to next year)
+ Income Received in Advance at the BEGINNING of the year (belonged to this year, received last year)

FORMULA 2 — To find EXPENSE on Accrual Basis

Expense (Accrual Basis) = Cash Paid during the year
+ Expense Outstanding at the END of the year (incurred now, not yet paid)
− Expense Outstanding at the BEGINNING of the year (related to last year)
− Prepaid Expense at the END of the year (belongs to next year)
+ Prepaid Expense at the BEGINNING of the year (belonged to this year, paid last year)

Easy memory trick

Think of it as: Cash Figure + (things that belong to THIS year but not yet in the cash figure) − (things that are IN
the cash figure but do NOT belong to this year).
Closing Outstanding → ADD (for income) / ADD (for expense) — always belongs to this year, not yet settled.
Opening Outstanding → SUBTRACT — it belonged to LAST year.
Closing Advance/Prepaid → SUBTRACT — belongs to NEXT year.
Opening Advance/Prepaid → ADD — belonged to THIS year, but cash moved last year.

9. Solved Numerical Examples (Practice These!)

Example 1 — Finding Income on Accrual Basis

Question
Fees received in cash during the year 2023–24 = ₹80,000.
Fees outstanding at the beginning of the year = ₹8,000.
Fees outstanding at the end of the year = ₹10,000.
Fees received in advance at the beginning of the year = ₹6,000.
Fees received in advance at the end of the year = ₹5,000.
Calculate the amount of Fees income to be shown in the Income Statement on Accrual Basis.

Solution:
Income (Accrual Basis) = Cash Received + Closing Outstanding − Opening Outstanding − Closing Advance + Opening
Advance
= ₹80,000 + ₹10,000 − ₹8,000 − ₹5,000 + ₹6,000

Fees Income (Accrual Basis) = ₹83,000

Example 2 — Finding Expense on Accrual Basis

Question
 Rent paid in cash during the year = ₹60,000.
Rent outstanding at the beginning of the year = ₹5,000.
Rent outstanding at the end of the year = ₹7,000.
Rent prepaid at the beginning of the year = ₹2,000.
Rent prepaid at the end of the year = ₹3,000.
Calculate the amount of Rent expense to be shown in the Income Statement on Accrual Basis.

Solution:
Expense (Accrual Basis) = Cash Paid + Closing Outstanding − Opening Outstanding − Closing Prepaid + Opening Prepaid
= ₹60,000 + ₹7,000 − ₹5,000 − ₹3,000 + ₹2,000

Rent Expense (Accrual Basis) = ₹61,000

Example 3 — Full Comprehensive Problem (Typical 6-Mark Question)

Question
Mr. Arjun keeps his books on Cash Basis. From the following details for the year ended 31st March 2024,
calculate his income on Accrual Basis:
(i) Cash received from customers during the year = ₹1,50,000
(ii) Debtors (amount owed by customers) on 1st April 2023 = ₹20,000; on 31st March 2024 = ₹25,000
(iii) Cash paid for salaries during the year = ₹40,000
(iv) Salaries outstanding on 1st April 2023 = ₹3,000; on 31st March 2024 = ₹4,500
(v) Cash paid for insurance during the year = ₹12,000, out of which ₹2,000 is prepaid as on 31st March 2024.
There was no prepaid insurance on 1st April 2023.

Solution:
Step 1: Compute Sales Income (Debtors = amount customers still owe = outstanding income)
Income from Sales = Cash Received + Closing Debtors − Opening Debtors
= ₹1,50,000 + ₹25,000 − ₹20,000 = ₹1,55,000
Step 2: Compute Salaries Expense
Salaries Expense = Cash Paid + Closing Outstanding − Opening Outstanding
= ₹40,000 + ₹4,500 − ₹3,000 = ₹41,500
Step 3: Compute Insurance Expense
Insurance Expense = Cash Paid − Closing Prepaid + Opening Prepaid
= ₹12,000 − ₹2,000 + ₹0 = ₹10,000
Step 4: Compute Net Income on Accrual Basis
Net Income = Income from Sales − Salaries Expense − Insurance Expense
= ₹1,55,000 − ₹41,500 − ₹10,000

Net Income (Accrual Basis) = ₹1,03,500

Note: Debtors act exactly like 'Accrued Income' — money owed to the business is income earned but not yet received in cash.
10. Important CBSE-Pattern Exam Questions (With Answers)
(A) Multiple Choice Questions — 1 Mark Each
Q1. Under which basis of accounting is the Matching Principle followed?
• (a) Cash Basis (b) Accrual Basis (c) Both (d) None

Answer: (b) Accrual Basis

Q2. Rent outstanding is recorded as an expense under:

• (a) Cash Basis (b) Accrual Basis (c) Both (d) None

Answer: (b) Accrual Basis

Q3. Which basis of accounting is mandatory for companies under the Companies Act, 2013?
• (a) Cash Basis (b) Accrual Basis (c) Hybrid Basis (d) Any basis

Answer: (b) Accrual Basis

(B) Fill in the Blanks — 1 Mark Each

• Q1. Under __________ basis, income is recorded only when cash is actually received.

Answer: Cash

• Q2. Income received in advance is also known as __________ income.

Answer: Unearned

(C) Very Short Answer Questions — 1 Mark Each

Q1. Define Accrual Basis of Accounting.

Answer: A basis of accounting under which transactions are recorded when income is earned or expense is
incurred, irrespective of whether cash is received or paid.

Q2. What is meant by 'Outstanding Expense'?

Answer: An expense which has been incurred (benefit taken) during the accounting period but has not yet been
paid.

(D) Short Answer Questions — 3/4 Marks Each

Q1. Distinguish between Cash Basis and Accrual Basis of Accounting (any four points).

Answer: Use the difference table in Section 7 — cover Meaning, Outstanding/Prepaid treatment, Accuracy of
Profit, and Legal Recognition as the four points.

Q2. Explain any two advantages and two disadvantages of Accrual Basis of Accounting.

Answer — Advantages: (i) Shows true and fair profit/loss. (ii) Follows the Matching Principle.
Disadvantages: (i) More complex and needs estimation. (ii) Reported profit may not equal actual cash available.

(E) Numerical Questions — 4/6 Marks Each

Q1. Rahul maintains his books on Cash Basis. Cash received from debtors during the year was ₹2,00,000. Debtors on
1st April 2023 were ₹15,000 and on 31st March 2024 were ₹22,000. Calculate income on Accrual Basis.
 Answer: Income (Accrual Basis) = Cash Received + Closing Debtors − Opening Debtors
= ₹2,00,000 + ₹22,000 − ₹15,000 = ₹2,07,000

Q2. Cash paid for salaries during the year was ₹90,000. Salaries outstanding on 1st April was ₹6,000 and on 31st
March was ₹9,000. Also, salaries paid in advance on 31st March was ₹2,000 (none on 1st April). Calculate salaries
expense on Accrual Basis.

Answer: Expense (Accrual Basis) = Cash Paid + Closing Outstanding − Opening Outstanding − Closing Prepaid +
Opening Prepaid
= ₹90,000 + ₹9,000 − ₹6,000 − ₹2,000 + ₹0 = ₹91,000

11. One-Page Quick Revision Cheat Sheet

REMEMBER THESE BEFORE YOUR EXAM
Cash Basis → record ONLY when cash moves. No outstanding/prepaid adjustments. Simple but not accurate.
Accrual Basis → record when EARNED/INCURRED. Adjusts for outstanding, prepaid, accrued, advance items.
Accurate, legally required for companies.
Outstanding = due but cash not yet moved | Prepaid/Advance = cash already moved but not yet due/earned.
Income formula: Cash Received + Closing O/s − Opening O/s − Closing Advance + Opening Advance.
Expense formula: Cash Paid + Closing O/s − Opening O/s − Closing Prepaid + Opening Prepaid.
Debtors behave like Accrued/Outstanding Income. Creditors behave like Outstanding Expense.
Companies Act 2013 → ONLY Accrual Basis allowed for companies.

Prepared as personal exam-revision notes based on the topics listed in T.S. Grewal's Double Entry Book Keeping (Financial Accounting),
Class 11, Chapter 4 — 'Bases of Accounting'. Please cross-check against your own textbook and latest CBSE syllabus/marking scheme
before your exam.