The cash vs. accrual accounting quandary
Which works for your practice?
By Reed Tinsley, CPA
O’Neal, McGuinness & Tinsley
The lyrics from a popular 40s tune, "You say tomato, I say tomahto, you say potato, I say potahto," may ring true to anyone selecting an accounting method for a busy physician practice. You can argue the merits of both systems. So which wins?
The answer often depends on the intended use of the financial statements. There are two basic statements: A balance sheet, which displays the practice’s assets, liabilities, and equity, and the statement of income, which displays the practice’s revenues, expenses, and net income.
First, let’s look at the differences between the two methods as an accounting 101 brush-up.
The accrual method of accounting records revenues when they are earned and expenses when they have been incurred. In other words, revenues are recorded on the books when billed to patients, insurance companies, and other third-party payers, and expenses are recorded when incurred and there is an obligation to pay. Banks or other lending institution, in order to receive and maintain a loan, usually require accrual basis statements.
On the other hand, the cash basis method of accounting records revenues when the cash is received and other transactions, such as expenses, when they are actually paid.
So which method should a practice utilize to keep its books and records? The industry standard is to use the cash method of accounting. This is because practices use their financial statements to manage and track their operations. For example, revenues and expenses are often compared to annual and monthly budgeted amounts.
Even more important, published practice statistics are expressed on the cash basis of accounting. Surveys from reputable sources such as the Medical Group Management Association, American Medical Association, and Medical Economics publish their statistical figures on the cash basis of accounting. Practices, as a management tool, compare their own operational statistics to these surveys. Groups need to know whether their collections are in line and whether or not their overhead is within reasonable limits or not.
Numbers don’t lie
So how do practice owners manage a practice on a day-to-day basis? One way is to use what is commonly termed a medical practice management report. Medical practice performance can be tied directly to the numbers it produces. Poor statistics usually indicate poor performance somewhere in the practice. This is how the managers of a practice know there are or could be existing problems in the medical practice.
Good statistics indicate good performance; it is that simple. Remember this axiom: Numbers don’t lie! If a medical practice (or any other health care provider) is not able to meet or achieve certain statistical benchmarks, then you can be certain there is some problem that warrants your investigation. This is why it is so important for a medical office to monitor financial statistics on an ongoing basis.
Keep the concept of benchmarking in mind. Benchmarking is basically goal setting, and all medical practices and other health care providers need it. Each medical practice needs to determine where the practice should be in terms of financial statistics and numbers and where it should stand financially day to day, at the end of the month, and at the end of year.
For example, should the practice’s overhead be 50% of collections? Should only 15% of practice receivables be over 90 days old? Should the net collection percentage always exceed 90% at any point in time? By constantly monitoring these benchmarks, a practice can ensure its ongoing financial success.
A medical practice statistical report summarizes a practice’s clinical activities, production, collections, contractual adjustments, and accounts receivable data. Related financial percentages and ratios are then prepared from these data. The purpose of the statistical report is to provide practice managers and owners with a financial snapshot of the practice. By analyzing the information in the report, these individuals and their advisors should be able to detect potential financial problem areas and correct them immediately. Also, these benchmarks should and can be monitored on an ongoing basis. These are just a few excellent ways to monitor and maintain practice profitability.
[Reed Tinsley is a partner at O’Neal, McGuinness & Tinsley in Houston and an editorial advisory board member of Physician’s Marketing & Management. He can be reached at (713) 993-0847.]