Cash basis vs. accrual accounting for ecommerce businesses sounds like an accounting question.
It really isn’t.
The more important question is whether your financial statements give you the information you need to run your business.
An ecommerce business may use the cash basis for tax purposes and still need good inventory, cost of goods sold and gross margin information every month.
Those are two different things.
What Is Cash Basis Accounting?
Cash basis accounting generally records income when you receive it and expenses when you pay them.
It is simple. That is one reason many small businesses use it.
If you pay your September rent in September, you record the expense in September. If you receive income in October, you generally record it in October.
That works pretty well until inventory gets involved.
Inventory Changes Things
Assume you spend $200,000 buying inventory in October because you are getting ready for the holiday season.
You didn’t sell $200,000 of inventory in October.
Some may sell in November. More may sell in December. You may still own $75,000 of it in January.
We don’t want your October income statement showing a $200,000 expense simply because that is when you bought the inventory.
You bought an asset.
As the products are sold, their cost moves into cost of goods sold.
Now we can match the cost of the products against the sales they generated.
That gives us a useful gross margin.
When You Bought the Inventory Isn’t the Important Part
This is one of the problems we see with ecommerce accounting.
A company can have big swings in inventory purchases from one month to another.
Maybe you bought $50,000 this month and $200,000 last month.
That doesn’t tell us what you sold.
If both months had $300,000 in sales, we want to know the cost of the products that generated those sales.
Otherwise, one month can look great and the next can look terrible simply because of when you purchased inventory.
That doesn’t help you run the business.
Your Tax Return Has One Job. Your Monthly Financial Statements Have Another.
Your tax return determines taxable income under the tax rules that apply to your business.
Your monthly financial statements should tell you how your business is performing.
We don’t need to force those two things to do the same job.
An ecommerce company may use the cash basis for tax purposes while still maintaining meaningful inventory and cost of goods sold information throughout the year.
We want to know your actual gross margin.
We want to know whether margins are improving or declining.
And we want to know that before we prepare your tax return.
We Don’t Need to Count Every Product Every Month
Good ecommerce accounting doesn’t need to make running your business more difficult.
For many of our ecommerce clients, we recommend a physical inventory count every quarter.
We then use the gross margin from the most recent quarter to estimate inventory during the months between physical counts.
When the next physical inventory is completed, we adjust the numbers to the actual inventory.
This gives us timely monthly financial statements without requiring the business to physically count every product every month.
It is practical. And it gives the owner information throughout the year instead of waiting until year-end to find out what happened.
Consistency Matters
Once we establish the accounting process, we want to handle things consistently.
Inventory should be handled the same way each month. The same applies to Amazon fees, Shopify fees, payment processing costs, freight and other ecommerce expenses.
Then changes in the financial statements actually mean something.
If gross margin drops from 42% to 36%, we want to know why.
Did your supplier raise prices? Did freight increase? Did tariffs change? Are you selling more of a lower-margin product? Did returns increase?
Now we have something worth looking at.
Your Accounting Should Help You Run the Business
At Schultz & Associates, CPA, we work with ecommerce businesses selling through Amazon, Shopify, Walmart, eBay, Etsy and other platforms.
We use QuickBooks Online and tools such as A2X to help organize the accounting.
But getting information into QuickBooks isn’t the goal.
We want ecommerce owners to have accurate and timely financial information they can use to run their businesses.
Cash basis accounting may work perfectly well for your tax return.
But you shouldn’t have to wait until tax time to find out whether your ecommerce business is actually making money.