Accounting has various types, and the type of accounting may hold you back from accruing most of the benefits from accounting services. Therefore, knowing which accounting type will help you get maximum benefits is essential. Most of the non-profit organizations start with cash-basis accounting because it is simple. However, this method falls short of providing a comprehensive view of the nonprofit’s financial health.
Therefore, there is a need to transition from a cash-based to an accrual-based accounting method. This will provide a more comprehensive view of finances and enhance long-term planning. If you want to know more about accrual-based accounting, you can consult any non-profit accounting services or accountants who can provide complete details about accounting services.
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What is the Difference Between Cash-Basis and Accrual-Basis Accounting?
Revenue is only recorded in cash-basis accounting when actual or digital cash is received. When funds leave the organization’s account, expenses are noted. This approach is only practical in situations where there are few transactions. This non-profit organization is not tiny. We are unable to wait for money to enter or exit the account when we need to perform significant accounting. A correct record of the present accounting situation is required.
On the other hand, accrual-based accounting records revenue and expenses as they are incurred. It does not wait for physical cash in hand because it assumes that the money will change hands in the future, so we have to record the transaction whenever it is incurred.
What are the Challenges of Cash-Basis Accounting for Non-Profits?
Cash-basis accounting is simple for small nonprofits. However, it is not an excellent option for those with large transactions. There are significant limitations to using cash-based accounting. Firstly, it does not accurately represent the financial health of the organization because we wait for the cash to come in hand and then record it in our accounts books. The timing or recording in cash-basis accounting can lead to misrepresentation of the organization’s actual financial state.
Secondly, cash-based accounting can cause challenges when planning for long-term financial goals. It won’t be easy to understand the company’s economic state, which will impact budgeting and forecasting. For instance, if fundraising occurs in the first quarter and the money is received in the second quarter, it will be recorded in the second quarter. This will create ambiguity and thus create problems for financial planning.
What are the Benefits of Accrual-Basis Accounting?
Switching to accrual-basis accounting will have many benefits for non-profit organizations. Some of the expected benefits are as follows:
Increased Financial Security
Recording revenue and expenses when they occur, instead of waiting for the cash exchange, helps provide a more accurate picture of the organization’s financial health. This way, you will understand a long-term view of the financial transactions. This accrual method also helps in keeping the records of revenue and expenses together, providing more clarity in the accounting. When you have all the required accounting details, it offers more financial security to the business.
Facilitates Better Decision Making
Leaders can make better strategic and data-driven decisions with more accurate understanding and information about the organization’s financial health. Data is very important when making decisions, and therefore, accrual-based accounting provides all the required data in one place. It gives a clear picture of the company’s financial strength.
Improves Financial Transparency
Accrual accounting provides a detailed view of the company’s financial situation to all the stakeholders and thus improves the trust and confidence of the stakeholders. When there is transparent accounting, it will increase the confidence of the donors and will strengthen your donor relations. Thus, non-profit organizations should rely on accrual-based accounting.
