Financial Plan: Cash or Accrual Basis Accounting

The financial portion of your business plan is so comprehensive, I will have to break it up into several posts. How well you present this portion of your plan is very telling of your financial abilities, as well as how responsible you will be with any money invested or loaned to you. Use this and coming posts as a guide to assist you, but never be afraid to consult with an accountant. Consider the following:

• How will you fund your venture? 
• Are you seeking investors or a small business loan? 
• Or will you fund the venture on your own with help from your current job or savings? 

No matter your answer, getting a good grip on the financial plan of your business is essential. Do not wait until you are making transactions to consider how you will approach your finances! Accounting for your business must comply with the GAAP or Generally Accepted Accounting Principles. While your own method to keep your books may sound great to you, the IRS will not think so if you are ever audited.

First, you must decide which method of accounting will suit your business first: Accrual-Basis or Cash-Basis Accounting. **Be aware that it is not only unethical but also illegal to change methods during the reporting year. Using accrual basis in January and cash in March is a sure way to personally invite the IRS to your business doors.**

For small businesses, cash-basis accounting is recommended (based on advice from many professionals and college texts). This means that you enter all transactions at the time money actually changes hands. 

This is different from accrual-basis which allows you to enter your transactions in the books at the time they are transacted -- whether or not payment has been made. A sale in January for the amount of $1000 will be entered in the January books with accrual-basis. But if you allow a payment plan to be implemented, the cash-basis would require you to only enter the amount that was actually paid to you in January. Remaining payments will be entered in a like manner. 

As you can probably tell, the accrual-basis accounting is not always reflective of cash flow. Sales and actual cash paid will not be the same, and those making decisions to lend you money or invest will want to know which basis you use. 

In contrast, the cash-basis method has it's drawbacks as well. Sales made without cash to show for it may make your business appear less profitable than it really is to investors. Offering an incentive for early payment within your payment terms is a good way to encourage timely and early payments from customers. Now you know why companies offer "90 days same as cash" or similar deals. 

Taking a closer look at these methods we can also see that businesses have a task at actually collecting money from their clients. Once a product or service has been delivered and money is not completely paid, there is no guarantee it ever will be. We will discuss how to deal with this in more detail in later posts, but for now, you need to know that an iron-clad contract or sales agreement is very necessary. Your notes payables will not accept the excuse that your accounts receivables is late. 

So in what instances would the accrual basis be more beneficial than the cash-basis? If you are selling fairly low priced products or services, this might be beneficial. Breaking up a $100 payment over 3 months may work for you personally but not look so great on your books. Be sure to account for the interest you accrue on your bills within your payment plans as well. Time is money! Really it is; when we discuss discounted cash flow and net present value you will have a better grip on the value of money in relationship to time. 

Feel free to leave your specific questions or comments in the section below. Next I will break down the 3 most important forms of your business -- Income Statement, Cash Flow Statement, and Balance Sheet. 

ChrissyBiz Solutions provides clients with customized, results-driven web marketing strategies. Our primary business writing duties include: article marketing,  search engine optimized web copy, blog content, social media, press releases, and newsletters  designed to drive traffic to your website and influence buyers decisions when purchasing products and services.

Contact ChrissyBiz today to discuss the impact that web marketing copy can have on your business.