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Question 2: Explain how the different accounting methods can affect a taxpayers income.
Throughout the accounting world, there are two famous words that make up most of the industry which is, it depends. The tax code is the reason for these words. Many of the laws and regulations that are in place have a lot of gray areas which is why accountants have jobs. If the tax code was written for the average American, everyone would get tax breaks. Furthermore, there are also accounting methods that are used as a way to recognize income differences. It really depends on how a company wants to report its finances. There are three methods that affect income. The first two are the cash method and the accrual method. The cash method is what it sounds like. Companies recognize income or expenses when payment is received. For example, a lot of Nonprofit organizations use the cash method, because they need donations in order to operate (Hoyle et al., 2021). Pledges are nice but the real money is better. Next, is the accrual method. The accrual method is the opposite of the cash method because income and expenses are recognized when an event occurs rather than when payment is received (Spilker et al., 2022). Think of the accrual method as a credit card. Credit cards are used to recognize that a consumer made a purchase, but credit cards are not connected to bank accounts where money is actually being withdrawn from the consumer. In a monthly statement, consumers have to pay the bill for their credit card to officially pay if that makes sense. Similarly, once the event is recorded, businesses do not recognize it again. Lastly, the hybrid method is a mixture of both methods. Inventory can sometimes cause people to use the accrual method and cash method for income and expenses.
