Schedule C Accounting Methods: Cash vs Accrual for 2025

Preparing and filing Schedule C (Form 1040), Profit or Loss from Business (Sole Proprietorship), often feels like walking a tightrope between simplicity and accuracy. Choosing the right accounting method—cash, accrual, or an approved alternative—determines: 

• When income hits your tax return

• How you track inventory

• Whether a future switch will trigger a §481(a) adjustment

If you find yourself walking that tightrope, use this guide as your Schedule C safety net. In it, you will find a clear breakdown of each method, the latest 2025 updates you should know about, and practical guidance for every small business owner and entrepreneur who can benefit the most from stress-free compliance as they focus on their operations. 

Key Highlights

• Cash vs. accrual defined in plain language: record transactions when money moves versus when it is earned or incurred.

• New $31 million gross-receipts cap allows more Schedule C filers to choose the cash method for 2025.

• Inventory can force accrual unless you qualify for the small business taxpayer exception and categorize items as non-incidental supplies.

• Switching methods requires IRS Form 3115, Application for Change in Accounting Method, plus a §481(a) catch-up, but careful planning can smooth the adjustment.

• Pros and cons differ by growth stage: service freelancers may prize simplicity, while inventory-heavy e-commerce sellers often need to use the accrual method for lenders.

• 1-800Accountant offers flat-fee bookkeeping and prepares Form 3115 when you are ready to change.

What Are the Schedule C Accounting Methods?

It's important to understand the two primary Schedule C bookkeeping and accounting methods, cash and accrual, as well as other options, some of which are essentially a hybrid of the two. 

• Cash method: You record income when you actually receive payment and expenses when you pay them.

• Accrual method: You record income when it is earned and expenses when they are incurred, regardless of cash flow.

• Schedule C other methods: Other methods are rare and typically require IRS approval and consistent application. Most sole proprietors will either use the cash or accrual methods. 

Choosing between cash and accrual shapes every line on Schedule C, from gross receipts to cost of goods sold (COGS). Understanding both is the first step toward making the best selection for your operations and achieving tax confidence.

Eligibility Rules & Inventory Triggers

Sole proprietors usually start on the cash method due to its relative simplicity. However, when faced with a choice between the cash and accrual methods, it is no longer automatic once two factors come into play:

1. Gross-Receipts Test

   • For tax year 2025, the IRS raised the small-business ceiling to $31 million in average annual gross receipts. Crossing that limit generally forces the adoption of accrual accounting.

2. Schedule C Inventory Rules

   • If you produce, purchase, or sell merchandise and keep inventory, you are expected to use accrual.

   • Small business taxpayers meeting the gross receipts test can instead treat inventory as non-incidental supplies, allowing continued use of the cash method.

Failing to switch when required can lead to penalties or forced method changes during an audit, which makes proactive monitoring a priority.

How Each Method Affects Key Schedule C Lines

Income & Expenses Timing

Review the following income and expense timing scenarios to see examples of revenue deferral or acceleration. 

Timing differences influence your: 

• Taxable income

• Quarterly estimated tax payments

• Year-end planning tactics (accelerating expenses or deferring invoices)

Cost of Goods Sold & Inventory

To calculate COGS, use Part III of Schedule C for: 

• Beginning inventory

• Purchases

• Ending inventory

Under the accrual method, purchases increase inventory until goods are sold, matching costs with revenue. Under the cash method (when allowed), purchases may be expensed immediately if items qualify as non-incidental supplies. Accurate counts protect margins and prevent double-counting deductions. 

Switching Methods the Right Way

If you find that a different accounting method is superior to what you're currently using, there's a process you should follow to do it the right way. Changing from cash to accrual—or vice versa—requires:

1. IRS Form 3115, Application for Change in Accounting Method

2. §481(a) Adjustment that spreads the income-statement impact over several years (up to four).

3. Statement of Reason explaining why the change is necessary and how your books will remain consistent.

The IRS approves automatic method changes for many Schedule C filers, yet errors such as omitting a detailed inventory reconciliation or using the wrong §481(a) spread period can delay acceptance. Early filing (typically with the timely filed return) and a complete Form 3115 package reduce red flag risk.

Switching methods is easy with 1-800Accountant's tax advisors guiding you through each step. 

Pros & Cons at a Glance

When evaluating the pros and cons of each method, consider the simplicity, flexibility, increased audit risk, and loan readiness to make the best determination for your business.

2025 Updates & Legislative Watch

Each year brings tax updates and legislation to watch, making ongoing monitoring paramount, and 2025 is no different. Review the following updates and changes that may directly impact your sole proprietorship. 

• Indexed Gross-Receipts Threshold: The cash method ceiling now sits at $31 million and will likely adjust again next year.

• Potential Inventory Simplification: Lawmakers have floated proposals allowing more small sellers to expense inventory immediately when the cost is under a certain dollar cap.

• IRS Enforcement Focus: Recent transcripts show heightened scrutiny of unreported Form 3115 changes and inventory omissions on Part III. These enforcement developments make keeping records accurate and up to date more important than ever before.

Best-Fit Scenarios

Review the following business types to determine which method is optimal and why it fits your business needs. If you don't see your precise business type, pay attention to the entry that most closely matches your operations. For example, if you're a freelancer with < $200k revenue, but aren't a graphic designer, that business type is likely the closest match. 

How 1-800Accountant Helps

1-800Accountant, America's leading virtual accounting firm, supports your operations with a suite of affordable, tax-deductible financial services, including flat-fee bookkeeping plans tailored to your business's Schedule C needs. 

When business growth demands a switch to a different accounting method, your designated team, familiar with your state and industry, will prepare Form 3115 and calculate §481(a) adjustments so you can stay focused on your next business milestone—not spreadsheets. And if you need help mapping invoices to Part III or projecting tax liability, advisory calls with your dedicated advisor bring clarity to every decision.

Don't delay–schedule your free, 30-minute call today to get started. 

FAQs

1. Can I use cash if I carry inventory?

If you meet the small-business taxpayer test and treat inventory as non-incidental supplies, you can use cash if you carry inventory. If you find that you are ineligible, accrual is required.

2. Do I need to change methods when revenue passes $31 million?

If you cross the threshold in a three-year average, this typically indicates that you must switch to accrual beginning the following tax year.

3. How long does a Form 3115 ruling take?

Because automatic changes require no individual ruling, approval happens instantly when you file a completed IRS Form 3115 with your return.

4. Will lenders accept cash-basis statements?

While some smaller lenders may find a cash basis statement acceptable, most commercial banks and investors request accrual basis financials for consistency.

5. What is a §481(a) adjustment?

A section 481 adjustment is the IRS mechanism that prevents double-counting or omission of income when you change accounting methods, spreading the impact over several years (up to four).