There are three main bases for accounting: cash basis, accrual basis, and modified accrual basis. The basis of your accounting determines how and when you record transactions. While it may seem like these are simply three different ways to report the same information, they can have a dramatic impact on how your community or homeowners association runs, how you prepare financial reports, and how you reconcile your accounts at the end of the year. Association members want to know their money is being used properly. That means it’s essential to choose the right basis for your community association’s accounting. Over the next few weeks, we’ll take a deep dive into the three main bases of accounting. First up, the cash basis of accounting.
When to record under a cash basis
Under a cash basis of accounting, transactions are recorded as soon as the money changes hands. The result is a running tally of income and expenses, much like you’d see on your checking account. This method is extremely straightforward and easy to understand. The balance sheet always clearly shows how much cash the association has on hand at that moment. It also has the benefit of being a single-entry system. This means it does not require software any more complicated than a typical spreadsheet to manage.
How a cash basis affects financial statements
Regardless of the basis you choose, your financial statements should include two main reports:
- The balance sheet shows the association’s financial situation at a specific point in time. It compares assets against liabilities to give a net worth. It ultimately shows how much money is in the HOA’s bank account.
- The statement of income and expense shows the association’s income and expenses over a period of time (month, year to date). It compares the income and expenses to the budget for the same period.
Because transactions are only recorded when they actually happen on a cash basis, these reports will be missing a few things compared to reports under other bases. Specifically, you will not see amounts for accounts payable, assessments receivable, and prepaid assessments. Even if the board prepares these statements separately, they will not be able to be easily verified against the balance sheet.
Should your association use a cash basis?
Probably not. While the simplicity of a cash basis can be very attractive to HOAs trying to handle their own finances, it leaves them open to a lot of problems down the road. Because it does not pay attention to unpaid bills or uncollected fees, nothing can be verified, and long-term planning becomes very difficult. For these reasons, it is recommended that all but the smallest of community associations to look toward a different accounting basis, like those we will cover in the coming weeks.
We’ll lend a hand
Of course, you don’t need to make this kind of a decision alone. In fact, unless you have experience in accounting or finance, you probably shouldn’t! Most community associations will instead turn to the experts at an hoa management company or accounting firm for financial services. Unfortunately, many self-managed communities trying to keep their fees low do not see this as a legitimate option. That’s where remote HOA management comes in. As a remote HOA management firm, Clark Simson Miller specializes in community association finances and back-office services. Our unique model offers a an alternative to full-service management. We give access to all the accounting services associations need without the on-site services that drive much of the cost of the full-service model. The result is an affordable alternative for communities feeling underserved and self-managed communities looking for an upgrade. Request a proposal online or at 865.315.7505 to hear more about our services.