Advantages of the Accrual Basis of Accounting

In many instances, the cash basis of accounting just does not present fully enough the financial picture of the organization. The accrual basis of accounting becomes the more appropriate basis when the organization has substantial unpaid bills or uncollected income at the end of each period and these amounts vary from period to period. If the cash basis were used, the

organization would have great difficulty in knowing where it actually stood. These unpaid bills or uncollected income would materially distort the financial statements. The superiority of the accrual basis of accounting is why it is the only acceptable accounting basis that can be used when presenting financial statements in accordance with generally accepted accounting principles. Unless the organization does not have any significant amounts of unpaid bills or uncollected income at the beginning or end of the period, accrual-basis reporting is required to present an accurate picture of the results of operations and of the financial position of the organization.

Accrual basis accounting is also required if an organization is trying to measure the cost of a product or service. It is impossible to know what a particular activity cost during the year if unpaid bills have not been included as an expense in the statement. The same is true where services are provided for a fee but some fees have not been billed and collected during the period. If a board or its membership is trying to draw conclusions from the statements as to the cost or profitability of a particular service, accrual-basis statements are essential. The same is true when an organization is on a tight budget and budget comparisons are made with actual income and expenses to see how effectively management has kept to the budget. Without including unpaid bills or uncollected income, such a comparison to budget can be very misleading and useless. Generally accepted accounting principles (GAAP) for both commercial and not-for-profit organizations include the use of accrual basis accounting. Organizations that have their books audited by certified public accountants, and who wish the CPA to report that the financial statements are prepared in accordance with generally accepted accounting principles, have to either keep their records on the accrual basis, or make the appropriate adjustments at the end of the year to convert to this basis.

Not-for-profit organizations are becoming more conscious of the need to prepare and use budgets as control techniques. It is very difficult for an organization to effectively use a budget without being on an accrual basis. A cash-basis organization has difficulty because payment may lag for a long time after incurring the obligation. For this reason organizations that must carefully budget their activities will find accrual basis accounting essential. (Chapter 12 describes not-for-profit organization budgetary considerations.)

Taken From : Wiley Not-for-Profit Accounting Field Guide 2003

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