House Hearing Considers Cash Accounting for Small Biz

A subcommittee of the House of Representatives’ Committee on Small Business held a hearing today to discuss the value of using the cash basis of accounting in small businesses, and whether they should be required to use the accrual basis.

Witnesses at the hearing, “Cash Accounting: A Simpler Method for Small Firms?” which was held by the Subcommittee on Economic Growth, Tax and Capital Access, were unanimous in suggesting that cash accounting is far easier for small businesses to use, and that at the very least they ought to have the latitude to choose the most appropriate method for their company.

“If I were to ask the average taxpayer about the difference between the cash and accrual basis of accounting, most would not know,” said Stephen Mankowski, a partner at CPA firm EP Caine & Associates and national secretary and chair of the Tax Policy Committee of the National Conference of CPA Practitioners. “The same is true for business owners. … I have found that small business owners simply think in terms of ‘cash in’ and ‘cash out.’ … They have lived their lives on a cash basis, so operating their business in this fashion simply makes sense to them. These [business] owners do not have systems in place to fully track accounts receivable or accounts payable. Further, many do not have excess funds to put these systems in place. To convert their financial information into an accrual basis would require adjustments to uncollected revenue, unpaid payroll and related liabilities, prepaid expenses, inventory, etc.”

“Converting to the accrual method of accounting might simply be a ‘one-time’ benefit for the government,” he continued, as it would accelerate some income for taxation. “Forcing a business to use the accrual basis not only complicates their business but also requires the owners to take time away from operations to focus on changing an accounting method. Ultimately, one does not start a business to focus on accounting. Forcing this change will do just that.”



The other witnesses echoed Mankowski’s sentiments.

“Small businesses should be given as much latitude as possible – they simply don’t understand the accrual basis,” said Prof. Donald Williamson, executive director of the Kogod Tax Center at American University, who added that the Internal Revenue Service should prefer cash accounting: “If I were an IRS agent, I’d welcome this – there are so many uncertainties in the accrual method that IRS agents have to take into account, I’d think they would applaud this.”

Rep. Brad Schneider, D.-Ill., whose father owned an accounting firm and who started his career as a consultant at PricewaterhouseCoopers, said, “All businesses face a large amount of uncertainty. Adding another layer of uncertainty is the last thing we should be doing.”

He then asked witness Sarah Windham, a senior tax manager at Top 100 Firm Dixon Hughes Goodman LLP, what issues accounting firms would face if they were required to switch to accrual accounting.

“One would be keeping up with receivables and payables,” she explained, “and two, as you bring owners and partners in or out, it may be difficult for them in the conversion, with new partners or old partners being hit with a liability they weren’t expecting to pay. Partners transitioning in and out might suddenly find themselves facing massive tax liabilities, without the cash to pay them.”


Outside the hearings

NCCPAP has gone on the record that it is opposed to mandating a switch to accrual accounting.

“One of the biggest challenges with accrual accounting for most taxpayers is the possibility of having to pick up phantom income, where it will end up being taxable in the first year,” national president Ed Caine, also of EP Caine & Associates, explained in a separate interview. “Can that be a pickup for the deferral government? Yes, of course. But is it fair? In our opinion, no. Most of us, and most small business, operate on a cash basis.”  

Mankowski noted a certain irony in the fact that his group of accountants is against a mandate for accrual accounting: “CPAs are the ones who would benefit the most [from a switch] – probably more so than the government. Businesses are going to have to look for outside assistance. The IRS has been working to reduce taxpayer burden, but this is the opposite of that process. It seems like it’s an anti-business discussion.”

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