Cash basis or accruals? It's one of the first decisions a new business owner faces, and it's surrounded by confusion. The rules changed for sole traders in 2024, and MTD ITSA is making the question more practical for the self-employed. This post explains the two methods, who can use which, and how to choose.
The two methods in one paragraph
Cash basis records income when money is received and expenses when money is paid. Simple, intuitive, and matches the bank account. Accruals basis records income when it's earned (you've done the work and raised an invoice) and expenses when they're incurred (the supplier has delivered), regardless of when cash moves. More accurate, more useful for management decisions, more complex to maintain.
Who can use cash basis
From April 2024, cash basis is the default for sole traders and partnerships in the UK. You have to actively opt out to use accruals. Limited companies cannot use cash basis for their statutory accounts — accruals is mandatory. So the choice really only exists for the self-employed and partnerships.
The case for cash basis
- Simple. If it's in the bank, it's income. If it left the bank, it's an expense.
- Tax follows cash. You only pay tax on money you've actually received, which helps cash flow.
- Less bookkeeping. No debtors, no creditors, no accruals or prepayments to manage.
- Fits MTD ITSA. For the self-employed, the quarterly digital records under MTD are straightforward.
The case for accruals basis
- True picture of profitability. If you invoice £80,000 in March but the customer pays in May, accruals shows the income in March, where it was earned.
- Better for decisions. Pricing, hiring, and investment decisions need to be based on what's been earned, not what's been collected.
- Required for funding. Banks and investors expect accruals accounts.
- Required for limited companies. No choice if you're incorporated.
- Better stock and WIP handling. Cash basis can't sensibly account for stock or work in progress.
The cash flow trap of cash basis
Cash basis sounds friendly until your business grows. Imagine you bill £20,000 in March but get paid in May. Under cash basis, the £20,000 is May income. But you spent labour and materials in March to earn it. Your March P&L shows a loss; your May P&L shows a windfall. You can't make good decisions from numbers like that.
The £150,000 turnover threshold (now removed)
Before 2024, cash basis was restricted to sole traders under £150,000 turnover. That cap is gone. Any size of unincorporated business can now use cash basis. But "can" doesn't mean "should."
How to choose: the four-question test
- Are you a limited company? Accruals is mandatory. End of question.
- Do you carry stock or work in progress? Accruals is far more accurate.
- Do customers take more than 30 days to pay? Accruals avoids distorted monthly P&Ls.
- Are you applying for finance in the next two years? Lenders expect accruals.
If you answered "no" to all four and you're a sole trader, cash basis is probably right for you.
How MTD ITSA changes things
From April 2026, sole traders and landlords with income over £50,000 must keep digital records and submit quarterly updates to HMRC under MTD ITSA. Cash basis dovetails neatly with quarterly digital records — what's gone through the bank is what gets reported. Accruals under MTD requires more careful month-end discipline, because the quarterly figures need to reflect earned, not received. We cover the practical setup in our MTD bookkeeping guide.
Switching between methods
You can switch from cash to accruals (or back) but the transition needs careful handling to avoid double-counting income or expenses. HMRC has specific transition rules — broadly, you add back income earned but not received in the prior year and bring in expenses incurred but not paid. We handle these transitions for clients moving from cash to accruals as they grow — our tax team manages the technical workings.
A practical example
Sarah is a freelance designer. She invoiced £42,000 in 2025/26 and was paid £38,000. She spent £5,000 in cash on software and travel, and has £1,200 of unpaid supplier bills at year-end.
Cash basis profit: £38,000 income − £5,000 expenses = £33,000.
Accruals basis profit: £42,000 income − £6,200 expenses = £35,800.
Under cash basis, Sarah pays tax on £33,000 this year and £6,200 of income shifts into next year. Under accruals, she pays tax on £35,800 this year, but next year starts clean. Same total tax over two years, different timing.
Limited company directors: a related question
If you're a director taking a salary plus dividends, the company is on accruals (no choice). Your personal tax return is based on what you actually received, which is effectively cash-based for personal income. So you live in both worlds — and that's fine. Our annual accounts team manages the company side; personal tax planning manages your individual return.
Our default recommendation
- New sole traders under £100k: cash basis. Simple, MTD-friendly, fits the bank account.
- Growing sole traders with stock or 30+ day payment terms: switch to accruals.
- All limited companies: accruals, with monthly management accounts.
The right basis isn't a forever choice. Pick the one that fits your business now, and revisit it when you grow, take on stock, or apply for funding. The cost of getting this wrong is usually distorted decisions, not tax penalties — but distorted decisions cost more in the long run.