Which one should a traffic control owner look at?

Both, for different questions. Cash tells you whether money came in to cover payroll and bills. Accrual tells you whether the work you did in the period was profitable. With slow receivables and retainage, the two can tell very different stories for the same month.

Does choosing accrual in my software change my tax method?

No. A report setting is a way of reading your numbers. Your tax accounting method is chosen with your tax return, and the IRS says a change from cash to accrual or the reverse generally requires IRS approval. Which method your business uses for tax is a decision for your accountant.

Does the profit and loss include cost of goods sold for materials I sell?

Not in Traffic OS. Its profit and loss counts expenses you record, and on the accrual setting it also counts goods received on purchase orders that are not yet paid or billed. Margin on materials you sell is on the margin report, which costs each sale from purchase-order receipts.

Why is sales tax shown on its own line?

Because sales tax you collect for the state is generally not your income. IRS Publication 334 says taxes you are required to collect from the buyer and turn over to the state are generally not included in income. On the accrual setting Traffic OS reports income before tax and shows tax on its own line.

Cash or Accrual: Which Profit and Loss to Run a Traffic

Q: What is the difference between cash and accrual profit and loss?

Cash counts income when the money arrives and expenses when they are paid. Accrual counts income when it is earned and expenses when they are incurred, regardless of when money changes hands. The IRS describes both methods this way in Publication 538. They often disagree for a month even when both are correct.

What cash and accrual profit and loss each tell a traffic control owner, why they disagree so often in a business with slow receivables and retainage, what the IRS says about the two methods, and how to read both without confusing your management view with your tax method.

Ask a traffic control owner whether last month was profitable and you will often get two answers from the same books. The bank balance says one thing. The invoices sent say another. Both can be right, because they measure different things.

That is the difference between cash and accrual profit and loss. This post explains what each one tells you, why they disagree so much in this trade, and how to read both without mixing up your management view and your tax method.

Read this first. This is about reading your own reports. Which accounting method your business uses for tax is a separate decision with IRS rules attached. Make that decision with your accountant.

The two methods in plain terms

The IRS describes the two methods in its publication on accounting periods and methods (IRS Publication 538):

Cash method: "you generally report income in the tax year you receive it, and deduct expenses in the tax year in which you pay the expenses."
Accrual method: "you generally report income in the tax year you earn it, regardless of when payment is received. You deduct expenses in the tax year you incur them, regardless of when payment is made."

The same publication says the purpose of an accrual method "is to match income and expenses in the correct year." That word, match, is the heart of it. Accrual tries to put the revenue from a job and the cost of doing it in the same period. Cash puts each one in the period the money moved.

Why the two disagree so much in traffic control

Some businesses get paid at the counter, and their cash and accrual numbers barely differ. Traffic control is not one of them.

Slow receivables. Work done in October is often invoiced in October and paid in November or December. On a cash view, October looks thin and December looks great, though the work was done in October.
Retainage. A share of each pay application on public work is held back until the project closes. That income was earned months before it arrives. Our post on retainage and cash flow covers tracking it.
Monthly rental billing. A rental billed at the end of the month and paid thirty days later lands in a different cash month than the month the devices were on site.
Bulk material purchases. Buy a season's paint in March and a cash view shows a big March expense against materials sold through the summer.
Late vendor bills. Goods arrive in one month and the supplier's bill shows up in the next. Until the bill is entered, the cost is invisible on a view that only counts what has been recorded or paid.

A worked example

This is an illustrative example, not real figures. In October a company sends $80,000 of invoices before tax. It collects $55,000, mostly for September's work. It records $40,000 of expenses. It also receives $6,000 of materials on a purchase order whose bill has not arrived yet.

Cash view: $55,000 in, $40,000 out. Profit $15,000.
Accrual view: $80,000 earned, $40,000 recorded plus $6,000 of materials already received. Profit $34,000.

Neither number is wrong. The cash view answers "did enough money come in this month?" The accrual view answers "was this month's work profitable?" An owner who only looks at one of them will make a bad decision about the other question sooner or later: hiring on an accrual month that has no cash behind it, or panicking over a cash month that was actually a strong month of work.

Which one to run the business on

For management, the honest answer is both, read for different purposes.

Use the cash view to manage cash. Payroll, fuel, insurance and loan payments are paid in cash. If the cash view shows money in falling behind money out, that is a problem this week regardless of how much you invoiced.

Use the accrual view to judge the work. Pricing, crew sizing and which customers to chase are questions about whether the work makes money. The accrual view is the one that puts revenue and its costs in the same month.

Use the gap between them as a signal. When the accrual profit runs well ahead of the cash profit month after month, receivables are growing. That is the moment to look at your aging report, which our post on reading your A/R aging report walks through.

The tax side, briefly

Your tax method is not a report toggle. A few points from IRS Publication 538 worth knowing before you talk to your accountant:

You can combine methods within limits. The IRS allows a hybrid method "if the combination clearly reflects your income and you use it consistently," with restrictions. One of them: "If an inventory is necessary to account for your income, you must use an accrual method for purchases and sales," subject to an exception for small business taxpayers.
Small business taxpayers have options. The publication describes an exception that lets a qualifying small business choose not to keep an inventory, based on average annual gross receipts over the three prior tax years and a dollar limit that is indexed for inflation. Whether your business qualifies is a question for your accountant.
Changing methods needs approval. Publication 538 lists "a change from the cash method to an accrual method or vice versa" among changes that require IRS approval. The IRS's form for requesting that is Form 3115, which it says is used to request a change in "an overall method of accounting or the accounting treatment of any item" (About Form 3115).

One more consequence of the method shows up in collections. The IRS says that if you are a cash method taxpayer, you "generally can't take a bad debt deduction for unpaid salaries, wages, rents, fees" and similar items, because those amounts were never included in income (IRS Topic 453, Bad debt deduction). That is another reason to ask your accountant how your method affects what an unpaid invoice costs you.

Sales tax is not income

Whichever view you use, keep sales tax out of revenue. IRS Publication 334 says that if you are required to collect state and local taxes imposed on the buyer and turn them over to the state, "you generally do not include these amounts in income" (IRS Publication 334). A profit and loss that counts tax as revenue overstates income by the tax rate on every taxable sale.

How the Traffic OS profit and loss works

Traffic OS has one profit and loss report with a cash or accrual switch. Here is exactly what each setting counts.

Cash setting. Income is the payments received in the period. Payments on invoices that were later voided are left out. Because a payment covers the whole invoice, this income includes any sales tax on those invoices.
Accrual setting. Income is the pre-tax amount of invoices issued in the period, by issue date. An invoice counts once it is sent, partly paid or paid. Drafts and voided invoices never count.
Expenses on both settings. Expenses are the ones you record, dated by their receipt date. Drafts and rejected expenses are left out. Traffic OS does not store a separate paid date for an expense, so on the cash setting the expense side is your recorded spend.
Extra on the accrual setting. The accrual setting also counts costs you have already incurred but not yet booked: goods received on a purchase order that is not yet paid or turned into a vendor bill, dated by the date received. Orders already turned into a bill are in the recorded expenses and are not counted a second time.
Tax on its own line. Tax on invoices issued in the period is shown separately on both settings.

Two things the report does not do. It does not turn inventory into cost of goods sold: materials count as an expense when they are billed, or on the accrual setting when they are received. For the margin on what you sold, use the margin report. And it is not your general ledger. Your accountant closes the books in your accounting system; invoices and customers can sync to QuickBooks, as covered in our post on QuickBooks and traffic control software.

Alongside it sit a cash flow report, a sales report and the unpaid-bills report, which also shows goods received but not yet billed. All of them print to PDF. See the reports on the features page, and the reports worth a weekly look in owner KPIs and reporting.

A monthly habit

Run the profit and loss on both settings for the month that just closed.
Write down the gap between accrual profit and cash profit.
Explain the gap in one or two sentences: a big receivable, retainage held, a bulk purchase, a late bill.
Watch the trend. A gap that grows three months in a row is a collections problem or a pricing problem, and both are cheaper to fix early.
Take the tax questions to your accountant, with both reports in hand.

Cash and accrual are not competing answers. They are two instruments on the same dashboard. A traffic control company with slow-paying customers needs both to see where it really stands.

Cash or Accrual: Which Profit and Loss to Run a Traffic Control Company On