Accrual Accounting vs. Cash Basis Accounting in Your Dental Practice

Starting a dental practice requires a myriad of decisions to be made, like selecting the right location or choosing quality equipment. Among the decisions that must be made before opening is choosing an accounting method to help keep track of your finances.

Accrual Accounting vs. Cash Basis Accounting in Your Dental Practice

Many dental practices start with cash basis accounting for its simplicity but may consider switching to accrual accounting as they grow. Understanding the distinctions between these two accounting options can help anyone looking to get into the business.

What Is Cash Basis Accounting?

Cash basis accounting recognizes every source of revenue and expense at the time cash is received or paid out. This method is straightforward, giving a clear picture of how much cash is available at any given time. It’s a similar experience to an individual looking into their personal checking account to see the current balance.

For dentists who are new to business and are starting off by opening a small practice, cash basis accounting can be very advantageous. It allows for simpler tracking of cash flow that is ideal for someone taking on new responsibilities on top of their traditional role.

However, some find that cash basis accounting can be deceiving. When looking into your funds, you may get the wrong impression that you are having a good month just because you received a single large payment from a patient. This is because it doesn’t account for expenses that have already been incurred but have yet to be paid. It can give a misleading view of the long-term health of your practice’s finances.

What Is Accrual Accounting?

On the other hand, accrual accounting can be seen as an annual health checkup for your dental practice. Its main distinction is that it records revenue when it is earned and expenses when they are incurred, regardless of when the cash was actually received or paid. This gives owners a live insight into their dental practice’s financial health.

By adopting accrual accounting, you can see the bigger picture. It allows you to see income at the time of service, not when the payment comes in, which could be weeks or months later. This is an important consideration, especially for dental practices where treatments can be expensive, and delays in insurance claims being processed can exist.

Some of the largest advantages of shifting to accrual accounting for your practice include:

• Stronger forecasting and budgeting: Because you have a more accurate financial vision of your practice, you will feel more confident being able to plan for future expenses or make larger investments, knowing you have the funds to back it up. This can also help you manage your staff, knowing when you will be able to allot a new monthly salary to hire a dental hygienist, for instance.
• Improved revenue recognition: Leveraging accrual accounting empowers you to match specific revenue streams with the expenses that were incurred to help earn that revenue. This is a huge value to dentist practice owners, as it enables them to track profitability per service and treatment. This can help guide how they want to price specific services and can determine what promotional strategy options they should create.

FAQ

Q: How Does Accrual Accounting Improve Patient Billing Procedures?

A: Because accrual accounting is a more nuanced approach, it allows dental practice owners to align expenses with related revenues. It is important to understand what the true cost of a dental service is, as this can help guide your pricing strategy to ensure clients are being charged a fair price without sacrificing profitability.

Due to this transparency, accrual accounting boosts billing strategies and can improve cash flow management by ensuring your invoices are sent in a timely manner and your accounts receivable are following up appropriately.

Q: Can Accrual Accounting Affect How I Manage My Dental Practice Inventory

A: Yes, inventory management is a huge benefit of using the accrual accounting method. By recognizing the expense of an inventory item when it is used rather than purchased, accrual accounting provides a more accurate understanding of how much each item costs and what your current inventory levels are.

This can help dental practice owners better forecast their supply needs, prevent them from overstocking unnecessary items, and ensure that all costs associated with inventory are accurately reflected on their financial statements.

Q: Does Changing to Accrual Accounting Impact How I Handle Taxes for My Dental Practice?

A: There are some tax items to consider when transitioning your dental practice to operate under accrual accounting methodology. While some enjoy the simplicity of calculating taxable income under a cash basis system, it doesn’t provide the most accurate representation of income and expenses specific to each tax year.

Accrual accounting can provide this financial clarity. Consulting with a tax professional who understands the differences between accrual and cash basis accounting can help keep you compliant with your taxes without overpaying.

Q: How Can I Tell if My Dental Practice Is Ready to Switch From Cash Basis to Accrual Accounting?

A: If your current dental practice is experiencing rapid growth with more complex transactions, it may be a good time to consider transitioning to accrual accounting. A clearer sign it’s time is if you keep experiencing situations where you did not accurately account for pieces of inventory or have lost money undercharging on a service. Switching can give you better insights into your financial health so that you can avoid making those mistakes again in the future.

If you believe it’s time to start seeking out additional loans or investors to grow your dental practice, it might be a good idea to consider switching as well. This can help you comply with regulatory requirements and avoid being unnecessarily fined for making any financial errors. If you are unsure if the time is right or not, consult with a financial advisor who will take an overall assessment of your practice and measure your readiness to make the switch.

Contact Vigor Financial Today

If you own a dental practice and want to ensure you are making the right accounting decisions, connect with the professionals at Vigor Financial. We have helped other business owners in your shoes with their cash basis and accrual accounting needs and would be honored to extend these services to your own operations.