If your business is profitable but you’re still facing large tax bills, the problem might not be your revenue—it might be your accounting method. Many business owners don’t realize that switching from accrual to cash accounting can be a game-changer for tax planning. If your accounts receivable consistently outweigh your payables, this move might lead to substantial tax savings.
Let’s break it down in simple terms, so you can understand how it works and whether it’s right for you.
Why This Matters to Business Owners
As a business owner, you’re constantly juggling cash flow, growth, and taxes. But if you’re using the accrual method, you might be paying taxes on income you haven’t even received yet. That’s frustrating—and avoidable.
By switching to the cash method, you align your tax reporting with actual cash movement. That means more control, better timing, and often, lower taxes.
Understanding the Two Accounting Methods Owners
Accrual Method
- Revenue is recorded when earned, regardless of when it’s actually received
- Expenses are recorded when incurred, not when paid
- Often required for businesses with inventory or gross receipts over $30 million (3-year average)
Cash Method
- Revenue is recorded only when cash is received
- Expenses are recorded when they’re actually paid
- Simpler, and may result in valuable tax deferral
IRS Requirements for Changing Methods
You can’t just change methods informally. To stay compliant, you must file IRS Form 3115 — the official request for a change in accounting method.
Key Details About Form 3115:
- Title: Application for Change in Accounting Method
- Timing: File it with your income tax return for the year of change (including extensions)
- Sections Include:
- Part I: General info
- Part II: Specific method change
- Part IV: Section 481(a) adjustment (more on this below)
Automatic vs. Non-Automatic Consent:
- Automatic Consent: Most common method changes—including accrual to cash—qualify here (under Rev. Proc. 2015-13 & 2018-31)
- Non-Automatic Consent: Complex cases may require advance IRS approval and a user fee
Eligibility for Cash Method
Not all businesses qualify. Here’s how to check:
- Gross Receipts Test: Your average annual gross receipts over the past 3 years must be $30 million or less (check current IRS inflation-adjusted limits)
- Not a Tax Shelter: Your business must not be structured as a tax shelter
- Business Type: Service businesses and those without inventory are more likely to qualify
If you meet these criteria, switching to the cash method could unlock significant advantages.
What is Section 481(a) Adjustment?
This adjustment is how the IRS ensures your income isn’t double-counted (or skipped) during the switch.
- Positive Adjustment: You’ll spread additional income over 4 years
- Negative Adjustment: You get the full deduction in the year of the change
Think of it as a one-time alignment to keep things fair and IRS-compliant.
Strategic Considerations
Why this matters for you:
- The cash method defers income and accelerates deductions, often improving your tax position
- You can continue using accrual for internal reports, while using cash for tax filings
- A properly calculated Section 481 adjustment is crucial—it ensures compliance and maximizes benefit
If you do it right, this change won’t just save money—it’ll give you greater visibility and control over your financial future.
What to Do Next
Here’s a simple plan to get started:
- Review eligibility under the gross receipts test
- Work with a tax advisor to prepare Form 3115 (per Rev. Proc. 2015-13 and 2018-31)
- Calculate your Section 481(a) adjustment
- Submit everything with your tax return for the year of change
Need Help?
If you’re wondering whether this change is right for your business or need help navigating the process, we’re here to guide you every step of the way. Let’s ensure you don’t leave tax savings on the table.
