Modified Cash Basis - Explained
What is a Modified Cash Basis?
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Table of ContentsWhat is a Modified Cash Basis?How is Modified Cash Basis Used?Uses of Modified Cash BasisAdvantages of Modified Cash BasisLimitations of Modified Cash BasisAcademic Research for Modified Cash Basis
What is a Modified Cash Basis?
Modified cash basis is a term in accounting that combines two major bookkeeping practices: accrual and cash basis. With a cash basis, you recognize a transaction when there is either outgoing or incoming cash. So, the cash receipt from a customer causes the revenue recordation, while the suppliers payment causes asset or expense recordation. On the other hand, recording of accrual basis revenue is done when it is earned and expenses incurred regardless of whether cash changes or not.
How is Modified Cash Basis Used?
One major role of the modified cash basis is to provide relevant financial information way better than what you can find in the cash basis record keeping. It is less costly compared to what you may need to maintain full-accrual accounting records set. It is, therefore, one of the cost-effective approaches to bookkeeping. The modified cash basis typically uses double-entry accounting to enable you to use results from the transactions to create a complete financial statement set. However, it is not possible to use a single entry system to get a modified cash basis of accounting. Also, since there are no accounting standards rules imposed on the use of a modified cash basis, there may be no specifications for what is acceptable. Where there is the use of a modified cash basis, handling of transactions should be done in a similar manner consistently, to be able to compare financial statements over time. When you are an owner of a small business, you will want to keep track of your income and expenses. One method that can help you to organize business finances and come up with a more accurate financial report is the modified cash basis accounting. Industries that use this include:
- Growing businesses
- Small businesses
Uses of Modified Cash Basis
- Businesses can use aspects from accrual and cash basis to balance long- and short-term basis accounting. They can also use it to record short-term items such as utility bills and long-term items such as property.
- You can apply a modified cash basis system when dealing with double-entry bookkeeping. Here for every entry to an account, you are supposed to create both opposite and corresponding entries to a different account.
- You can also use a modified cash basis accounting for internal purposes, although it does not observe the Generally Accepted Accounting Principle (GAAP). So, to ensure it complies with GAAP's standards, you need to make some adjustments to the transactions. A good example is to convert cash-basis transactions to accrual.
Advantages of Modified Cash Basis
- Elements from the modified cash basis method can be useful for balancing both short and long term accounting items.
- Modified accrual basis methods give a clear overview of business performance and help to cut costs where possible.
Limitations of Modified Cash Basis
- The method may prove inadequate where financial statements require formal reviews by auditors, banks, or investors.
- Since the modified cash method does not comply with GAAP, it is limited to internal use only.