Distinguish cash basis from accrual basis accounting.

• A. Cash basis records when cash is exchanged; accrual recognizes earned revenue and incurred expenses regardless of cash, giving a fuller view of profitability and obligations.
• B. Cash basis recognizes revenue when earned; accrual when cash paid.
• C. Cash basis recognizes all obligations; accrual ignores revenue until cash received.
• D. Cash basis is more accurate for profitability; accrual is not.

Answer: (A)

The main idea is about when transactions are recorded. Cash basis accounting records revenue and expenses only when cash actually changes hands. Accrual accounting records revenue when it is earned and expenses when they are incurred, regardless of when the cash is received or paid.

This makes accrual the best choice for understanding profitability and obligations because it matches income with the expenses that helped generate it and records amounts owed or owed to others (receivables and payables). For example, if you complete a service this month but won’t get paid until next month, cash basis would wait to record the revenue, while accrual records the revenue now and notes a receivable. Likewise, if you incur an expense this month but pay later, accrual recognizes the expense now and records a liability; cash basis would not show the expense until payment.

That’s why the described difference holds: cash basis records when cash is exchanged; accrual recognizes earned revenue and incurred expenses regardless of cash, giving a fuller view of profitability and obligations.