The taxable income of a taxpayer shall be computed in accordance with the method of accounting he regularly employs in keeping his books.
The methods of accounting recognized under the Tax Code are:
Cash Basis - a method of accounting whereby all items of gross income received during the year shall be accounted for such taxable year and that only expenses actually paid for shall be claimed as deductions during the year. Users of cash basis accounting are mostly individuals engaged in business and practice of profession, professional partnerships and professional service organizations.
Accrual Basis - a method of accounting for income in the period it is earned regardless of whether it has been received or not. In the same manner, expenses are accounted for in the period they are incurred and not in the period they are paid. The accrual basis of accounting is being used by taxpayers whose nature of business uses inventories since this method of accounting will correctly reflect income by matching purchases and expenses against sales.
Completion of Contract Basis - an accounting method applicable to contractors in the construction of building, installation of equipment and other fixed assets, or other construction work covering a period in excess of one year.
However, pursuant to Republic Act No. 8424 which took effect on January 1, 1998, contractors are no longer allowed to adopt this method of reporting their income derived in whole or in part from long-term contracts.
Percentage of Completion Basis - a method applicable in the case of a building, installation or construction contract covering a period in excess of one year whereby gross income derived from such contract may be reported upon the basis of percentage of completion.
In such case, the return should be accompanied by a certificate of the architect or engineer showing the percentage of completion during the taxable year of the entire work performed under contract. There should be deducted from such gross income all expenditures made during the taxable year on account of the contract, account being taken of the materials and supplies on hand at the beginning and end of the taxable period for use in connection with the work under the contract but not yet so applied.
Beginning January 1, 1998 income from long-term contracts are required to be reported using this method only.
Installment Basis - a method considered appropriate when collections extend over relatively long periods of time and there is a strong possibility that full collection will not be made. As customers make installment payments, the seller recognizes the gross profit on sale in proportion to the cash collected.
Crop Year Basis - a method applicable only to farmers engaged in the production of crops which take more than a year from the time of planting to the process of gathering and disposal. Expenses paid or incurred are deductible in the year the gross income from the sale of the crops are realized.
Reference: RAMO 1-2000