Accrual Accounting vs Cash Accounting
As HOA accounting specialists, we are often asked about the differences in cash and accrual accounting systems. If you’re not familiar with accounting methods, this topic is a great place to start learning. Currently, both cash and accrual accounting methods are widely used by community associations. In some states, however, corporations (including community associations) are required by law to utilize an accrual accounting system.
The basic differences between cash and accrual accounting methods can be explained in the following manner:
Not many people still use a checkbook, but think back. A checkbook is a good example of a cash accounting system. That is, you don’t record income until money is deposited into your account. Likewise, you don’t debit your checkbook until you write the check or make payment. The advantage to this system is in its simplicity; most people are familiar with this method and therefore are more comfortable using it. The main disadvantage of cash accounting is that it does not always provide the most accurate reflection of your account. Basically, cash accounting doesn’t see unpaid bills that you know are coming. That’s why this method is best-suited for small associations that always pay their debts on time and don’t have a large number of monthly transactions.
Accrual accounting is generally accepted as the more accurate system, because it records transactions whenever the goods or services are delivered instead of when they are paid for. This means that when the landscapers come and service your homeowners association, an accrual system records the expense immediately, as opposed to a cash system, which wouldn’t record this expense until it is paid.
During the time between when the service is performed and when the bill is paid, a cash accounting report would not show the expense. This means that one would think the association has more funds than it actually does. Thus, the accrual accounting method portrays the most accurate financial condition of the association.
Whether your association uses cash, accrual, or a combination of the two systems, the important part is to ensure consistency in your financial recording. At Clark Simson Miller, we proudly utilize accrual accounting for all of our associations and management companies. Our proprietary software generates custom financial reports that make it easy for board members and homeowners alike to determine the association’s financial health. If your association or management company has been considering or actively pursuing a solution for your accounting needs, we encourage you to contact us. We will be glad to consult with you to determine if our accounting services are a good fit for your community or firm.