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Solid bookkeeping practices are vital to the health of any landscaping business. Bookkeeping—or managing your financial accounts—may look different depending on the scale of your operation, but it’s an aspect of the business that shouldn’t be neglected.
If you have lots of customers and bring in large amounts of revenue every year, you probably work with an accountant or in-house financial staff. Even if you’re still handling that side of the business yourself, it’s often something you want to deal with as quickly as possible and move on. (While accountants may find numbers and paperwork thrilling, the rest of us typically do not.)
Evaluating financial processes can be a hassle at best or frightening at worst, especially if you’re not sure where to start. This leads many landscape business owners to avoid making changes at all. Breaking out of that mindset is important, though, if you want to enable your business to achieve its full potential.
One of the most foundational financial decisions a business can make is choosing whether to use a cash-based or earned/accrual accounting method. This distinction is significant—and frequently misunderstood. The two methods represent two overall approaches to handling revenue and expenses, and they don’t just impact internal processes—they’re used as an official designation for your business (with subsequent tax implications).
What is cash-based vs. accrual accounting?
The primary difference between cash and accrual accounting comes down to timing.
With the cash method, revenue and expenses are recorded when they hit the bank (e.g., when you receive payment for a service or pay off a bill). With the accrual method, revenue and expenses are recorded as soon as they’re billed or incurred (e.g., when you send an invoice or receive a bill in the mail).
It might not seem significant, but the difference in timing can have a serious impact on your business.
Take this example: In December, you send a client an invoice for $5,000. You receive a check for $3,000 from an invoice you sent in November, receive a $500 bill for equipment maintenance, and pay $1,000 for subcontractor services that were billed in October.
With the cash-based accounting approach, your profit for the month would be $2,000 ($3,000 in income minus $1,000 for subs).
With the accrual method, your profit for the month would be $4,500 ($5,000 invoiced minus $500 for equipment maintenance).
The payments you deposited or paid in December weren’t recorded in December using the accrual method since they’d already been accounted for in November and October (when the invoice was sent and the bill was received).
Pros and cons of cash and accrual accounting
The main advantage of the cash method is that it’s straightforward and easy to implement. It’s the structure most people use for their personal bookkeeping, and lots of small businesses rely on it as well. The downside is that cash-based accounting offers a very narrow (and sometimes misleading) view of how a business is doing. Looking at a single snapshot in time leaves out important pieces of the story—large upcoming expenses or periods with unusually high revenue, for example.
Accrual accounting, on the other hand, gives a more balanced idea of a company’s financial health by recording anticipated or upcoming expenses, in addition to expected income. Using this method can be a challenge for companies that regularly struggle to maintain cash flow, though. (For tips on increasing cash flow for your landscape business, check out this article.)
Since taxes are levied when income is recorded, using the accrual method means you could owe the IRS money before a client has submitted payment—as in the example above, where you invoiced in December but wouldn’t receive payment until the following year.
Why landscape businesses should use the accrual method
For growing companies, it’s generally better to use the accrual accounting method. Cash accounting might have worked when you first started your landscape business, but as you attempt to grow, it can become a roadblock.
Since accrual accounting gives a broader overview of where your company’s at, it can yield a more complete picture of your data—ultimately enabling you to make better business decisions.
If you’re currently using the cash method and want to make a change, there’s a few things you should know.
- The IRS actually requires businesses that averaged more than $25 million in gross receipts over the past three years to use accrual accounting.
- To change accounting methods, you need to fill out and submit Form 3115.
Financial decisions, especially when they impact every area of your business, aren’t always easy. Hopefully, with the help of a qualified accountant or in-house staff, you can make a smooth transition from cash-based accounting to accrual accounting in a timeframe that makes sense for your landscape company.
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