Karen Ragsdale owns a business that rents parking spots to students at the local university.
Karen’s typical rental contract requires the student to pay the year’s rent of $450 ($50 per month) on September 1. When Karen prepares financial statements at the end of December, her accountant requires that Karen spread the $450 over the nine months that each parking spot is rented. Therefore, Karen can recognize only $200 of revenue (four months) from each parking spot rental contract in the year the cash is collected and must defer (delay) recognition of the remaining $250 (five months) to the next year. Karen argues that getting students to agree to rent the parking spot is the most difficult part of the activity so she ought to be able to recognize all $450 as revenue when the cash is received from a student.
Why do generally accepted accounting principles require the use of accrual accounting rather than cash-basis accounting for transactions like the one described here?