Cash to Accrual Adjustments: Tackling FAR Exam Practice Questions
Kyle Ashcraft, CPA · 2019 CPA Exam Scores · 95 FAR · 98 BEC · 91 REG · 90 AUD
Cash-to-accrual questions give you cash paid, cash received, and the beginning and ending balances of Accounts Receivable and Accounts Payable — then ask for net income under the accrual method. The fastest way through them is a single shortcut formula, but it's worth seeing the underlying journal entries once before relying on it.
How does cash-to-accrual conversion work, mechanically?
A company earns $120,000 of revenue, of which $80,000 is collected in cash. Its Accounts Payable balance starts the year at $12,000 and ends at $8,000. It pays $20,000 in cash for expenses.
| Basis | Revenue | Expenses | Net income |
|---|---|---|---|
| Cash | $80,000 collected | $20,000 paid | $60,000 |
| Accrual | $120,000 earned | $16,000 incurred | $104,000 |
On the revenue side, $80,000 was collected in cash but $120,000 was actually earned, so the $40,000 difference is a debit to Accounts Receivable rather than cash.
On the expense side, the $20,000 cash outlay isn't all current-period expense. Since AP fell by $4,000 (from $12,000 to $8,000), part of that cash paid down a balance left over from a prior period. The remaining $16,000 is the current period's actual expense — which is why accrual net income ($104,000) is higher than cash-basis net income ($60,000) here.
What's the shortcut formula?
Accrual expenses = Cash paid ± change in AP
| Balance change | Effect vs. the cash-basis figure |
|---|---|
| AR increases | Accrual revenue is higher than cash collected |
| AR decreases | Accrual revenue is lower than cash collected |
| AP increases | Accrual expenses are higher than cash paid |
| AP decreases | Accrual expenses are lower than cash paid |
Practice question 1: AR decreases, AP increases
Cash received from customers is $1,500,000 and cash paid to suppliers is $900,000. AR starts the year at $250,000 and ends at $220,000. AP starts at $120,000 and ends at $150,000.
| Step | Amount |
|---|---|
| Cash collected | $1,500,000 |
| Less: decrease in AR ($250,000 − $220,000) | −$30,000 |
| Accrual revenue | $1,470,000 |
| Cash paid | $900,000 |
| Plus: increase in AP ($150,000 − $120,000) | +$30,000 |
| Accrual expenses | $930,000 |
| Accrual net income | $540,000 |
The AR decrease means $30,000 of the cash collected was actually for revenue already recognized in a prior period, so it comes back out of this period's revenue. The AP increase means $30,000 of this period's expenses hasn't been paid in cash yet, so it gets added on top of the cash paid.
Practice question 2: AR increases, AP decreases
Cash received is $900,000 and cash paid is $500,000. AR starts at $150,000 and ends at $200,000. AP starts at $100,000 and ends at $80,000.
| Step | Amount |
|---|---|
| Cash collected | $900,000 |
| Plus: increase in AR ($200,000 − $150,000) | +$50,000 |
| Accrual revenue | $950,000 |
| Cash paid | $500,000 |
| Less: decrease in AP ($100,000 − $80,000) | −$20,000 |
| Accrual expenses | $480,000 |
| Accrual net income | $470,000 |
Here it flips: the AR increase means the company earned more than it collected, so that $50,000 is added to revenue. The AP decrease means $20,000 of the cash paid actually settled a prior period's expense, so it comes back out of this period's expenses.
AR and AP move revenue and expenses in opposite directions from cash. An increase in AR pushes accrual revenue above the cash collected. An increase in AP pushes accrual expenses above the cash paid, which lowers net income relative to the cash-basis figure. Decreases in either balance do the reverse.
Want the full FAR framework?
My free CPA 101 course covers the study approach I used to score 90+ on every CPA exam section.
More on cash, revenue, and expense recognition
Kyle Ashcraft, CPA scored 90 or above on every section of the CPA exam in 2019, including a 95 on FAR. He is the founder and sole instructor of Maxwell CPA Review, a complete CPA review course covering all six sections, where he creates every lecture, textbook and study outline himself.
I hope cash to accrual adjustments are clearer after this article! Keep learning!