Here are some accounting methods for income tax purposes

Arnav Pandya

When it comes to income tax, there are different accounting methods that can be used. However, there is also an element of confusion about which system has to be used at what point of time and for the various types of income that is earned.

The rules and regulations that are present under the Income Tax Act need to be followed for this purpose. Here is a look at the issue and what the individual needs to do and first there are two types of accounting systems that can be used.

Mercantile system

Under the mercantile system of accounting the details are recorded when they become due and not just when the amount is paid. A simple example is of some sales that have been made but the payment for this has not been received. When this happens then the mercantile system will still record the amount as sales even though the amount could take several weeks to come in.

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Arnav Pandya

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A similar situation would be witnessed when it comes to the expense side so if there are some workers who have done the work and hence salary to them is due but is to be paid after 7 days then this would still be recorded as an expense.

This will give rise to a situation where the profit figure need not be realised in cash but is more of an accounting figure.

Cash system

The cash system of accounting is different from the mercantile system in the sense that an amount here would be recorded only when this is actually spent or received. The actual transfer of the amount in cash terms is the defining factor that determines the recording of the transaction.

In this case if there is no amount that is paid or received then the transaction would not show in the books of accounts. In this sense there is a bit of narrow recording of the details under the cash system as it would not give a picture of what is actually happening in terms of activities unless cash has moved.

Actual position

The income under different heads would require a specific treatment according to the rules in force. As far as the income from business or profession is concerned the requirement is that the recording of the details would be undertaken either under the cash or the mercantile system that the person or entity is regularly employing. There are a few points that are important here.

The first is that the recording can be under either of the two systems so it cannot be that there can be both the systems adopted according to the convenience of the tax payer.

Also this has to be regularly followed so this is a factor to consider. Again when it comes to the income from other sources the same details will be applicable so there would be adoption of either the cash or the mercantile system as per the procedure normally followed.

When it comes to the other heads of income which are Salaries, Capital gains and Income from House Property then the method of accounting that is followed by the tax payer loses relevance because of the fact that there are clear guidelines available under the tax laws of what has to be followed.

For example when it comes to salaries then this has to be taken on accrued or receipt basis whichever is earlier so this solves the entire issue as far as the recording is concerned. Similarly, there is a clear outline of how the income from house property is to be considered and the details that will be recorded.