Accrual Accounting versus Cash-basis Accounting

Accounting

When it comes to accounting software for your nonprofit, you’ll want to consider the two main methods of accounting and how you will handle them in your new system. These two methods are accrual accounting and cash-based accounting. These determine how your nonprofit will be recording your transactions in the financial statements. What’s the difference in the methods? They each track how your agency tracks cash coming in and going out. Both methods have advantages and disadvantages and can lead to error or even fraud and multiple levels.
A nonprofit organization must be vigilant when it comes to accounting and the tracking of expenditures due to transparency, audit, and compliance requirements.

Cash-basis accounting: In this method, revenues are not counted until the money actually is paid, even if they took place months beforehand, and income for the agency in previous months are not recorded until the money is actually received.

Accrual accounting: Here, expenses are noted in the when they take place, even if they aren’t actually paid until a month in the future. In other words, an accounts receivable account will be added for future money that will come in and is counted as revenue at that point – even if the money may not be due for 30, 60, or even 90 days from the time of exchange of goods and services.

For instance, assume your agency provides sheltered employment for your clients, in a workshop facility, and you assemble gift baskets under contact. If your customer pays you 40 days after receipt of each shipment, you have two choices on how to handle these transactions. On August 1st, right after you send out a shipment of gift baskets, you can immediately list the payment in your Accounts Receivables ledger. This would be the accrual accounting method. If, however, you ship on August 1st, but do not receive a check until September 9th, and do not count these funds until that date in September, you are employing the cash-basis accounting method.

Keep in mind, cash-basis does only mean cash. It can also be a check payment, credit card payment, or any additional type of revenue.
Cash-basis accounting is best used by smaller nonprofits that rely on maintaining cash flow and an awareness of how much money is on hand. Agencies with larger operations and more expenses and revenue can rely on the accrual accounting methods. The organization can keep track of revenue when transactions take place rather than when money is received if it uses accrual accounting. The nonprofit keeps track of income when it is earned, in spite of whether or not the customer has paid.view more details at http://www.nytimes.com/2015/12/01/opinion/the-questionable-accounting-behind-the-worlds-carbon-budget.html

These same methods are used not only for revenue tracking but for expense tracking as well. If you use cash-basis accounting for when money is received, you’ll do the same thing for money that is being paid out. You cannot switch back and forth between the two methods.

Accounting

Which is right for your nonprofit agency? Most organizations – not-for-profit and for-profit – use the accrual method. Most accountants will make sure to set aside accounts to ensure that funds will be available when it is time to make purchases or pay taxes, for example, so that the cash flow issue does not become a problem. Accrual accounting is the most familiar way to track transactions for your nonprofit agency but you should consult with other agencies, accounting experts, and your board if you have not already established your accounting best practices.

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