Understanding QuickBooks Cash Basis Reports

One of the best features of QuickBooks is that it does not lock you in to the Cash or Accrual Basis. This means you can use accrual basis reports throughout the year for management information, and use cash basis reports for preparing your taxes. This doesn't mean QuickBooks keeps two sets of books; it just means that QuickBooks removes unreceived income and unpaid expenses from your reports. It also adds income and expenses from last year that were received or paid during the current year.

Reporting Preferences for Cash Basis

You can use the preferences to change the default basis for QuickBooks reports. To change the preferences, follow these steps:

Step 1.           Select the Edit menu and then select Preferences.

Step 2.           Scroll down and click on Reports & Graphs. Then click the Company Preferences tab.

Figure 1 Set the default for summary reports to Cash or Accrual.

How Cash Basis Reports are Calculated

The same thing happens with unpaid bills except that expenses and Accounts Payable are involved. That is, all unpaid bills will be removed from the cash basis Balance Sheet and P&L as long as the coding on the bill is to an expense (or income) account.

Normally, you wouldn't expect to find a balance in A/R or A/P on a cash basis balance sheet. However, if you do find a balance in A/R or A/P on a Cash Basis Balance Sheet, it's probably due to one of the following situations.

Note
If the cash basis Balance sheet shows balances in A/R or A/P, determining the cause of the balance as described below may not solve the problem. You may need to manually adjust the balance in A/R or A/P. See Completing the Cash Basis Conversion below for more information.

• Check the open invoices and unapplied credit memos. Do they include an item that points to a balance sheet account? When an invoice or credit memo includes an Item that is associated with a balance sheet account, that transaction will affect A/R on both the accrual and cash basis balance sheet. You will need to manually adjust A/R as described below.
• Check the open invoices and unapplied credit memos. Do they include an Inventory Part? If so, the “average cost” of the inventory item is left as a debit in A/R, with an offsetting credit to Inventory Asset.
• If A/R has a negative balance, it is probably due to unapplied payments . An unapplied payment is an open transaction that involves both A/R and another balance sheet account (usually Undeposited funds), so this transaction will not be removed from the cash basis balance sheet. Create an Open Invoices report and look for negative numbers. If you find both positive and negative numbers on this report, use the Receive Payments screen to apply the payments to your open invoices. If there are no Invoices to which you can appropriately apply the payments, you will need to manually adjust the balance in A/R as described below.
• Check the unpaid bills and bill credits. If they include an item that is associated with a balance sheet account, they won't be removed on the cash basis reports. For example, if the client enters a bill for a loan at the bank, the bill will credit A/P and debit the liability account (and interest expense). Since the bill is connected to a balance sheet account, the transaction affects both A/P and the offsetting balance sheet account (loan payable) on the cash basis Balance Sheet.
• If A/P has a negative balance, it is probably due to a Check coded to Accounts Payable (e.g., a prepayment to a vendor coded to Accounts Payable) or to an overpayment made to a vendor using the Pay Bills screen. Create an Unpaid Bills report and look for negative numbers. If you find negative numbers on this report, use the Pay Bills screen to apply the prepayments (Checks) or overpayments (Bill Payments) to your unpaid bills. If there are no bills to which you can appropriately apply these debits to A/P you will need to manually adjust the balance in Accounts Payable as described below.
• Check for journal entries that hit A/R or A/P accounts. If Accounts Receivable or Accounts Payable is on the top line of the Journal Entry and the offset is to one or more income or expense accounts, QuickBooks keeps the debit or credit to A/R or A/P on the cash basis Balance Sheet.

Proofing A/R and A/P on the Cash Basis Balance Sheet

To proof the balances of A/R and A/P on the Cash Basis Balance Sheet, use QuickZoom to display the transactions behind the numbers on the Balance Sheet.

Step 1.           Create a Cash Basis Balance Sheet. Select the Reports menu, choose Company & Financial, and then choose Balance Sheet Standard.

If your preferences are set to default to Accrual Basis reports, click Modify Report on the Balance Sheet report and select Cash Basis. Then click OK.

 Figure 2 A Cash-Basis Balance Sheet with A/R.

Step 2.           The Cash Basis Balance Sheet above has a balance in Accounts Receivable. To see why, double-click on the A/R balance to see the transactions behind it.

Step 3.           Set the date range on the Transactions by Account Report to All.

Figure 3 Transactions behind the A/R account from the Cash-Basis Balance Sheet.

Step 4.           The Transactions by Account report shows all transactions that use Accounts Receivable. However, we only want to see the open transactions, so click Modify Report and select the Filters tab.

Step 5.           Filter the Transactions by Account report to only include transactions with a Paid Status of Open.

Figure 4 Filter the transactions report to include only “open transactions”.

Step 6.           Now, the Transactions by Account Report shows that a single transaction is causing the Cash Basis Balance Sheet to show a balance in A/R.
As you can see, all open transactions in the A/R account that use other balance sheet accounts, remain on the cash basis Balance Sheet. On the screen below, you can see the details of those transactions.

Figure 5 The filtered transaction report. Includes a single transaction with a paid status of “open.”

Note: The $600 associated with “Product Sales” reflects the value of the inventory sold and therefore is an offset to the “Inventory Asset” Balance Sheet account. Use QuickZoom to view the invoice form and the inventory item.

Completing the Cash Basis Conversion

Although QuickBooks does a great job of removing invoices and bills when you create a cash basis report, it does not reverse any accruals you make for prepaid expenses or unearned income. As shown in Figure 2 it also does not reverse any A/R or A/P amounts that offset to balance sheet accounts other than Sales Tax Payable. In order to create a true cash basis Balance Sheet, you may need to enter journal entries to reverse accruals for prepaid income and expenses. There are two options:

Option 1: When There is No Need to Preserve Accrual Basis Year-End Reports

Step 1.           Using the totals from the filtered “Transactions by Account” report as shown in Figure 5, create a journal entry to adjust the balance in A/R. In the example above, the balance of $600 in Accounts Receivable came from an Invoice with a $600 reduction in Inventory for the sale of an Inventory Part Item. To complete the cash basis conversion you will enter the journal entry show in Figure 6.

Figure 6 Journal Entry to complete the cash basis conversion

Step 2.           Do the same for A/P as necessary, using a separate journal entry.

Important
You must not use Accounts Receivable or Accounts Payable on the top line of these journal entries when the offset to AR or AP involves one or more income or expense accounts. If you do, the transaction will be considered “open” and therefore it will not change the cash basis reports. Instead, use the workaround of putting the Journal Entries bank account on the top line of the journal entry. Also, you must enter a customer name in the name field on the A/R line of the journal entry, and you must use a vendor name on the A/P line. To keep things simple, create separate names for these adjustments (for example, “Accounting Adjustments C” for adjustments to AR and ”Accounting Adjustments V” for adjustments to AP).

Step 3.           If necessary, create additional journal entries to debit accrued income or credit accrued expenses that are not associated with A/R or A/P.

Step 4.           Enter reversing entries as of the first day of the following reporting period. Depending on how many journal entries you created, it might be fastest to memorize each entry from steps 1-3, and reverse the debits and credits.

Figure 7 Entry to reverse the cash basis conversion

Note
QuickBooks 2002 Premier and Premier: Accountant Edition both include a “Reverse” button on the journal entry screen. The reverse button creates a separate journal entry transaction with the debits and credits inverted. The default date for the reversing entry is the first day of the month after the date of the original journal entry. For example, if you enter a journal entry dated July 8, 2002 and click the “Reverse” button, QuickBooks creates a reversing entry dated August 1, 2002. You have the option of viewing and making changes to the reversing entry before saving.

Step 5.           Lock the file (set the closing date). If it won't cause too many restrictions, lock the file as of the date of your reversing entries (i.e. the first day of the next reporting period). In any case, lock the file as of the last day of the prior reporting period to preserve your cash basis conversion.

Option 2: Preserves Accrual Basis Year-End Reports

Some accountants prefer to complete the cash basis conversion outside of QuickBooks (e.g. using a spreadsheet) to preserve Accrual Basis Year-End Reports. Be careful with this approach, as it does not create auditable “entries” in the books. Document everything you change and keep your notes. If you want a complete, auditable cash basis file in QuickBooks but want to leave the accrual basis reports in tact use the following method.

Step 1.           Create a backup of the data file.

Step 2.           Restore the backup file you just created and give the restored file a slightly different name (e.g. Academy Glass 2001 Cash). Make sure to store this file in a separate folder on your client's hard drive so that your client will not accidentally use this file to process transactions. Make sure the file name refers to the financial reporting year. The cash basis file will be for reporting purposes only.

Step 3.           Using the total from the filtered “Transactions by Account” report as shown in Figure 5, create a journal entry to adjust the balance in the A/R account. Do the same for A/P as necessary, using a separate journal entry.

Step 4.           If necessary, create additional journal entries to debit accrued income or credit accrued expenses that are not associated with A/R or A/P.

Step 5.           Lock the file as of the last day of the prior reporting period.

This completes the process of producing “clean” cash basis reports in QuickBooks.