The Accrual or Cash basis for Management Accounting?

The Accrual or Cash basis for Management Accounting?

There are two basic methods for producing management accounts through the year – with accruals or just measuring the ‘cash’ through the bank.

The accruals basis takes into account purchases and sales incurred by the end of the month that have not yet been paid. The cash basis is just that – simply what has passed through the bank account and nothing else. When accountants talk about "accruals and prepayments" they are referring to the monthly adjustment required to follow the accruals method.

An accrual is an adjustment to include a cost incurred which is not in the accounting system at the month end as an invoice – such as goods received into stock but the invoice for one reason or another hasn’t been input. A prepayment is just the opposite – an invoice in the accounting system which represents (maybe partly) a cost which has not been incurred by the month end - such as a quarterly rent invoice which needs to be spread over three months.

Here are some reasons why at BookCheck we feel that the accruals method is better, indeed we suggest it should be unquestioned for a business of any significance in which we include all our clients. 

  • Better management information – matching of income and related costs in the same month, so you can see which activities generate what profit.

  • Accounts are more forward looking – accruing for costs/income when the work has been done, rather than when paid or money received. You can see earlier what the performance of the business is.

  • Better decision making – by having an up to date set of accounts, you get the best picture of how the business is performing and what actions are needed to drive the business forward, to hit targets.

  • Management accounts are then prepared on the same basis as the formal Year End statutory accounts which are on the accruals basis – board members will be reviewing financial information which won’t then be fundamentally different to that reported to external stakeholders.

  • Easier to forecast costs and income as it will be reported in the management accounts when the event/work takes place, rather than when it is paid.

Most significant businesses will produce monthly accounts using the accruals method and then, as required, will generate a complementary cashflow report, to manage the cash position. The cashflow report will be the same, regardless of whether the accounts are on the accruals or cash basis, as it measures the cash in and out of the bank accounts each month.

 

Written by Melanie Mistry ACMA, one of eight qualified accountants in the BookCheck Team

This entry was posted in Management Accounts by Caroline

Making Tax Digital - should you be concerned?

Making Tax Digital - should you be concerned?

Making Tax Digital is a government plan to update HMRC with financial information four times a year instead of simply at the year end. This is set to affect about 1.6 million companies, 2.4 million self-employed and 900,000 residential landlords.

The government had wanted businesses to comply by April 2018. HMRC has relaxed the timetable for these proposals under considerable pressure from all over. So that’s a relief as the timing appeared very rushed. The new timetable will mean that businesses above the VAT threshold of £85,000 will need to keep digital records from 2019 but initially only for VAT purposes. Businesses will not need to keep digital records or update HMRC quarterly for other taxes until at least 2020. Businesses and landlords with a turnover below the VAT threshold will be able to choose when to move to the new digital system - the government said this will affect about 3.1 million businesses.

When eventually MTD is introduced the actual reporting should not be time-consuming, assuming the business is using software which will be adapted, otherwise this will impose a significant and costly extra requirement which will be especially noticed by micro-businesses. It also begs the question as to what information is going to be reported quarterly and what HMRC will do with this information. The quality and meaning of quarterly information for HMRC is to our mind a bit of a mystery at the moment. Currently the only profit information which is formally reported is at the year end which is usually after significant checking and adjustment by the external accountants.  Will this mean that such attention is required quarterly or will it mean that such information is of limited use? Will it force businesses to use accounting software? Will HMRC have access to fully detailed accounting records rather than just the formal statutory accounts summary? Will it encourage more income to be declared or discovered or less costs to be claimed? Time will tell us what the consequences will be.

Anthony Pilkington

Managing Director

BookCheck Ltd