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Cash vs Accrual accounting methods

*Technical Question

Firstly, I would like to say Happy New Year to the ProTaxCommunity! Also, I would like to thank all the more experienced accountants who take time/energy out of the day to answer questions. We truly appreciate you and all the knowledge you have shared.

Speaking with a new corporate prospect. I asked for the previous year’s T2 and preliminary questions.

Prospect informed me no bookkeeping was done in previous years. Handed over bank statements at year-end and the accountant did the rest. QuickBooks desktop was used for invoicing but that’s it - no bookkeeping.

Looked at S100 (Balance sheet) and saw $0 in accounts receivable and accounts payable. Starting to think the old accountant used the cash basis of accounting. I have never seen this for before and read on that it is allowable If you are a farmer, fisher, or self-employed commissioned sales agent, which the prospect is not.

What I have seen in the past is sales on accrual and expense on a cash basis. The rationale behind the cash basis on expenses was that expenses are paid the day incurred or a day or two after and it saves time from needing to enter the bill and matching payment rather than just entering payment. However, with that method, I did see year-end accruals so accounts payable was accurate at year-end.

Informed the prospect Quickbooks Online may be better for bookkeeping than desktop because of automatically importing transactions from the business bank account and credit card among other things.

Also, I told the prospect that the bookkeeping should be done correctly and that sales/expenses should be entered in the bookkeeping software not just using for invoicing. Prospect is on board to do everything the right way now.

Does anyone have experience with this or transitioning a taxpayer from a cash basis to accrual and what was your strategy/approach?

I would suggest that you have a nice clean start - no old mess to clean up. Hopefully the T2 shows values for capital assets which you will want to set up in QBO. As far as AR and AP, you will simply switch from cash to accrual by recording what is seen, while making sure that any deposits are for amounts that have been invoiced and invoicing if they haven’t been. With expenses, claim what you can, starting again with what you see. I would not worry about what was done in the past but would try to make sure that whatever wasn’t recorded, gets recorded.

Do you know and do QBO? I would advise if you don’t that he find someone to guide him and oversee what he does. QBO is surely a good choice for him.

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Get the capital asset register from the accountant.
Get the ending trial balance from the accountant. This is your starting point.

Now do proper bookkeeping, which is accrual basis. No modifications where some is cash basis. Cash basis in any form is not allowed unless a farmer, fisher or self-employed commission sales person. Expenses are incurred when the product or service is invoiced, not when paid. Period. Same with Revenues.

Personally, I don’t like QBO but I do see the attraction of having bank feeds. The same thing is available from Sage desktop without having the risk of your data being out there on the net.

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I have “transitioned” many clients, but I wouldn’t really call it “from cash to accrual” - it’s more like “from no accounting or pile-of-receipts to actual accounting” (generally using some kind of software).

I have about 15 QBO clients, and I generally suggest that they DO NOT set up the bank feeds until they have become semi-skilled in using QBO on its own. It isn’t that much extra work to record bank transactions by hand, particularly if you record all transactions like you should (i.e. invoicing with accounts receivable, and collection of such receivables). If the client sets up bank feeds, it is quite likely that they will end up double-recording many transactions, and screwing up QBO’s tracking of GST/HST/PST/payroll remittances/etc because these have to be handled with care in QBO. Once you have the accounting system in place, and running smoothly, you can add bank feeds to help catch/add the transactions that are not already recorded. You also have to “match” or “skip” any transactions in the bank feed that ARE already recorded in QBO. So, bank reconciliations are still very important.

I would use the S100 to establish the opening balances in QBO - particularly the value of Retained Earnings. Otherwise you will have to amend the prior year T2 to match what you are using in QBO.

Hope that helps!

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Bank recs are very important, but can be very simple if transactions are properly recorded. I have QBO client where I just need to click a couple of keys to reconcile.

I add bank feed right away because that is probably the pain point that we are trying to address. But double entries can certainly be a problem - one of my QBO clients needs much help with this.

And your last point, I was just being economical with words - I would also use the entire S100 to establish opening balances.

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