Cash Basis vs Accruals Under MTD

Cash Basis or Accruals? Which Accounting Method to Use Under MTD

Last updated: February 2026

When Making Tax Digital for Income Tax begins in April 2026, every affected sole trader and landlord must choose an accounting method for their quarterly updates: cash basis or accruals. The method you pick determines when you recognise income and expenses in each quarter, which directly affects the figures you report to HMRC. For most people, cash basis is the simpler and more natural option. But it is not always the right one. This guide explains both methods, compares them side by side, and helps you decide which suits your situation.

What cash basis means

Cash basis accounting records income when you receive it and expenses when you pay them. If a customer pays you on 12 May, that income belongs to Q1 (6 April to 5 July). If you pay a supplier invoice on 8 October, that expense goes into Q2 (6 July to 5 October). There is no concept of amounts owed or owing. Only actual money movements count.

HMRC made cash basis the default method for unincorporated businesses (sole traders and landlords) with qualifying income below £150,000. If your combined gross self-employment and UK property income falls under that threshold, you are automatically on cash basis unless you actively opt out. This change was introduced in April 2024 and applies directly to MTD for Income Tax reporting from April 2026 onwards.

The key advantages of cash basis for MTD quarterly reporting are:

• Simplicity: you match your records to your bank statements. When money appears in your account, it is income. When it leaves, it is an expense.
• No debtors or creditors tracking: you do not need to account for unpaid invoices or bills you have not yet settled.
• Natural fit for quarterly updates: each quarter’s figures are simply the cash that moved during those three months.

What accruals basis means

Accruals accounting records income when you earn it and expenses when you incur them, regardless of when the cash actually changes hands. If you complete a job on 28 June and invoice for £2,000, that income belongs to Q1 even if the customer does not pay until 15 July. Conversely, if you receive a £600 electricity bill dated 30 September, that expense falls into Q2 even if you pay it in October.

Accruals gives a more accurate picture of your business performance in each period because it matches income to the work done and expenses to the period they relate to. However, it requires more record-keeping. You need to track:

• Trade debtors: amounts customers owe you at the end of each quarter
• Trade creditors: amounts you owe suppliers at the end of each quarter
• Prepayments: amounts you have paid in advance for services not yet received
• Accrued expenses: costs you have incurred but not yet been billed for

For each MTD-compatible software submission, you need these adjustments in place to produce correct quarterly figures under accruals.

The £150,000 threshold

Before April 2024, the cash basis threshold was £150,000 turnover and you had to actively opt in. The rules changed: cash basis is now the default for all unincorporated businesses below £150,000 qualifying income, and the previous income cap has been removed entirely. You can now use cash basis regardless of turnover, though you must actively elect it once you exceed £150,000.

For MTD purposes, qualifying income means your combined gross income from self-employment and UK property. This is turnover, not profit. If you earn £90,000 from a freelance consultancy and £25,000 in gross rental income, your qualifying income is £115,000 and cash basis is your default method.

Cash basis vs accruals: a direct comparison

Worked example: plumber with December payment lag

James is a self-employed plumber in Leeds with qualifying income of £62,000. He enters MTD for Income Tax in Phase 1 from 6 April 2026. During Q1 (6 April to 5 July 2026), he completes the following work:

He also pays the following expenses during Q1:

• Materials from plumbing supplier: £2,100 (paid 10 May)
• Van fuel: £680 (various dates in Q1)
• Insurance premium: £1,200 (paid 15 April, covers full year)
• Accountancy fee: £900 (invoice dated 20 June, paid 22 July)

Q1 figures under cash basis

James reports only the money that actually entered and left his bank account between 6 April and 5 July:

• Income: £4,200 + £3,800 + £350 = £8,350 (Ms Davies’s £5,600 excluded because payment arrived 18 July)
• Expenses: £2,100 + £680 + £1,200 = £3,980 (the £1,200 insurance is fully deducted when paid; the £900 accountancy fee excluded because it was paid in July)
• Profit reported: £8,350 − £3,980 = £4,370

Q1 figures under accruals

James reports income when earned and expenses when incurred, regardless of payment dates:

• Income: £4,200 + £3,800 + £350 + £5,600 = £13,950 (Ms Davies’s job was completed 28 June, within Q1)
• Expenses: £2,100 + £680 + £300 (one quarter of £1,200 insurance) + £900 = £3,980 (insurance spread over the year; accountancy fee included because it was invoiced in Q1)
• Profit reported: £13,950 − £3,980 = £9,970

The difference is significant: £4,370 profit under cash basis versus £9,970 under accruals for the same quarter. Under cash basis, the missing £5,600 from Ms Davies appears in Q2 when payment clears. Under accruals, it appeared in Q1 when the work was completed. Over the full tax year, both methods reach the same total profit, but the quarterly figures can look very different.

When cash basis is the better choice

Cash basis works well for most sole traders and landlords entering MTD, particularly if you:

• Have straightforward income patterns with short payment cycles
• Want the simplest possible quarterly reporting process
• Do not carry significant losses that need to be offset against other income
• Have little or no business borrowing (avoiding the £500 interest cap issue)
• Use bank-feed-connected software where transactions import automatically

For a landlord receiving monthly rent by standing order, cash basis is ideal. The rent hits your bank on a predictable date each month, you record mortgage interest and repair bills when you pay them, and each quarterly update is a straightforward extraction of three months of bank transactions.

When accruals may be necessary or preferable

Accruals is the stronger choice in several specific situations:

• Significant year-end debtors: if customers regularly take 60 to 90 days to pay, cash basis shifts large amounts of income into later quarters, which can create misleading quarterly figures.
• Business losses: cash basis limits loss relief to £50,000 per year and does not allow losses to be carried back to previous years. If you are making losses (for example, in the early years of a property renovation business), accruals gives full access to loss relief including sideways relief and carry-back.
• Business loans and finance: if your annual interest payments exceed £500, cash basis restricts your deduction. Accruals has no such cap. This is relevant for landlords with large mortgage portfolios (though note the separate finance cost restriction that limits mortgage interest relief to basic rate for residential properties).
• Stock-heavy businesses: if you hold significant stock at the end of each period, cash basis does not properly match the cost of goods sold to the period of sale. Accruals ensures stock purchased but not yet sold is carried forward rather than deducted immediately.
• Multiple income sources approaching the threshold: if your qualifying income is near £150,000, you may prefer accruals from the start to avoid switching methods later.

Switching between methods

You can switch from cash basis to accruals (or vice versa) at the start of a new tax year. You cannot switch mid-year. When you switch, transitional adjustments are required to prevent income or expenses being counted twice or missed entirely.

For example, if you move from cash basis to accruals at the start of 2027/28, you need to bring in any trade debtors (amounts owed to you on 5 April 2027) as opening income for the new year, and any trade creditors (amounts you owe on 5 April 2027) as opening expenses. Your MTD software should handle these adjustments, but your accountant needs to review them to ensure nothing falls through the gaps. For guidance on choosing the right tool, see our MTD-compatible software guide.

Impact on quarterly reporting under MTD

The practical difference between the two methods comes down to how much work each quarterly update requires:

Cash basis quarterly workflow:

1. Connect your bank account to your MTD software via open banking
2. Categorise transactions that imported during the quarter
3. Review for any personal transactions that need excluding
4. Submit the quarterly update to HMRC through the software

Accruals quarterly workflow:

1. Complete the cash basis steps above
2. Review outstanding sales invoices and add any income earned but not yet paid
3. Review purchase invoices and add any costs incurred but not yet paid
4. Calculate prepayments and accruals for costs that span quarter boundaries
5. Submit the quarterly update to HMRC through the software

The additional steps under accruals are not difficult, but they require more careful record-keeping and a clearer understanding of when income was earned versus when payment was received. If you have an accountant handling your MTD submissions, the method choice is less about your workload and more about which approach produces the most accurate and tax-efficient result.

Frequently asked questions

Is cash basis compulsory under MTD if my income is below £150,000?

No. Cash basis is the default, meaning HMRC assumes you are using it unless you say otherwise. You can opt out and use accruals by electing to do so on your tax return or Final Declaration. You are not forced to use cash basis.

Can I use cash basis for my self-employment and accruals for my property income?

Yes. The choice of accounting method applies separately to each trade or property business. You could report your freelance income on cash basis and your rental income on accruals, or vice versa, provided you apply each method consistently within that income source for the full tax year.

Do I need to tell HMRC which method I am using for quarterly updates?

Your accounting method is indicated in your Final Declaration at the end of the tax year. For quarterly updates, you report income and expenses using your chosen method, but the formal election is made at the Final Declaration stage. Your MTD software will typically ask you to confirm your method when you set up.

What happens if I switch from cash basis to accruals mid-year by mistake?

You cannot switch methods during a tax year. If you have submitted quarterly updates on one basis, you must continue with that method for the remaining quarters and the Final Declaration. Any correction would need to happen at the start of the next tax year.

Does the choice of method affect my tax bill?

Over the lifetime of your business, both methods produce the same total taxable profit. The difference is timing: cash basis may defer or accelerate recognition of income and expenses compared to accruals. In specific years, one method could produce a higher or lower tax bill than the other, but the totals even out over time. The main exception is loss relief, where accruals offers more flexible options that can genuinely reduce your overall tax paid.

Sources

• GOV.UK: Cash basis accounting for sole traders
• GOV.UK: Making Tax Digital for Income Tax
• GOV.UK: Working out your rental income
• GOV.UK: Cash basis reform from 2024 to 2025