The IRS Doesn’t Care About Your Opinion on Cash vs. Accrual, Know the Rules

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Becker & Ledger

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For most small businesses, choosing between cash and accrual accounting is a matter of preference, tax strategy, and simplicity.

But if you run an RIA, it is not a choice. It is a requirement.

The SEC requires that all Registered Investment Advisers maintain their financial books and records by Generally Accepted Accounting Principles (GAAP). Under GAAP, accrual accounting is a full stop.

Many advisors get this wrong, thinking they can run their books on the cash basis because they don’t have inventory or because their tax CPA files their returns on a cash basis. However, for regulatory purposes, the SEC expects your internal books, the ones subject to audit or exam, to follow accrual accounting standards.

Why Accrual?

Accrual accounting matches income and expenses to the period when they are earned or incurred, not when cash moves in or out.

Here is why this matters to the SEC:

✅ It gives a true, timely view of your firm’s financial health.

✅ It prevents the manipulation of income or expenses based on the timing of cash flows.

✅ It aligns with GAAP, which is the baseline for trustworthy, verifiable financial records during an SEC audit or exam.

For example, if you invoice a client for Q2 services in July and they pay in August, under accrual accounting, you record that income in Q2, not when the money hits your account in August.

Same with expenses. If you receive a vendor bill in December but don’t pay it until January, accrual accounting books that expense in December, when the liability occurred.

But My CPA Does My Taxes on a Cash Basis, Is That Okay?

Yes, for tax purposes only.

Many RIAs with gross receipts under $27 million (the IRS threshold) can file their tax returns using the cash basis of accounting. But that has nothing to do with your internal books and records required by the SEC.

For the IRS, cash basis may be fine. For the SEC, accrual is mandatory.

This distinction trips up a lot of advisors who let their tax CPA handle their bookkeeping. Your tax filings and your internal financials are not the same thing. The books the SEC cares about, those required by the Books and Records Rule (Rule 204-2 under the Advisers Act), must be accrual.

What the SEC Requires

Under the Advisers Act, you are required to maintain:

  • General ledgers showing assets, liabilities, capital, income, and expenses, prepared by GAAP (accrual basis).
  • Journal entries for each transaction.
  • Supporting documentation for all disbursements and receipts of funds.
  • Trial balances and financial statements that fairly present your firm’s financial condition.

These must be updated in a timely fashion and be ready for inspection during an SEC exam.

Practical Steps for Advisors

Here is what this means for your firm in the real world:

  1. Use the accrual basis for internal books. Your bookkeeping system, whether QuickBooks, Xero, or another platform, must be set to accrual accounting.
  2. Maintain separate tax accounting if needed. Your CPA can file taxes on a cash basis if you qualify, but that does not change your obligation to keep accrual-based books for SEC purposes.
  3. Work with a bookkeeper or controller who understands RIA-specific compliance. Many generalist bookkeepers miss this critical distinction. Make sure yours does not.
  4. Document everything. Have clear, GAAP-compliant records of all financial transactions. During an SEC exam, sloppy or incomplete records are a red flag.

Bottom Line

You don’t get to pick cash vs. accrual based on preference. The IRS allows a cash basis for tax returns in some cases. But the SEC requires accrual accounting for your firm’s books and records, without exception.

Confusing the two can lead to sloppy records, audit headaches, and compliance risks that simply aren’t worth it.

If you want your firm’s financials to stand up to regulatory scrutiny and make sharper, more strategic decisions, you need your books on an accrual basis, clean, timely, and accurate.

No shortcuts. No debate.

Need help getting your books SEC-compliant, without the hassle?

Let’s make sure your firm’s financial foundation is rock-solid, audit-ready, and decision-focused.

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