There are a few substantial differences between agricultural accounting and business accounting, specifically when it comes to reporting on the income statement and the balance sheet. For the income statement, most ag accounting is on a cash basis, making it simpler and more straightforward. Business accounting follows accrual methods, which allow entries of revenue and expense in the absence of cash transactions. This is more complicated, but it allows for consistency in financial reporting across companies and industries.
Cash vs. Accrual
In ag accounting, CASH IS KING! It doesn’t matter whether a contract is signed or a service is performed; on the P&L, income is recorded when cash is received, and expenses are recorded when checks are written. The process is clear cut and easy to understand.
In business accounting, accountants usually follow GAAP (Generally Accepted Accounting Principles). For the P&L, matching revenue with expenses is the name of the game! Under GAAP, several criteria must be met for revenue and expenses to be recorded. Revenue is usually recognized when it is earned, and expenses are recognized in the same period as the revenues to which they relate. This is called the matching principle, and it’s one of the main underlying values of GAAP. In accrual accounting, the timing of cash collection and expenditure doesn’t come into play when recording revenue and expense.
Another major variation between agricultural and business reporting is how items are valued on the balance sheet. Ag accounting allows assets to be recorded using market values. For example, land that was purchased several years ago for $100,000 may currently be worth $500,000. On a farm balance sheet, the land can be recorded at $500,000 because that is the amount that it can be sold for today. In business accounting, items on the balance sheet are valued at cost. It doesn’t matter if assets have increased in value over time; the amount reported on the balance sheet is the historical cost of the items.
One other significant difference between these accounting methods is the tendency of on-farm accountants to use the terms “increase” and “decrease” instead of “debit” and “credit.” Debit and credit are standard accounting terms in the business world and are the backbone of double-entry bookkeeping. On-farm bookkeepers may prefer increase and decrease because it is simpler to think about pluses and minuses when dealing with cash. This makes sense because these bookkeepers use cash basis accounting methods.
As you can see, there are significant differences between accounting methods on the farm and in the business world. One method isn’t necessarily better than the other, but they are vastly different, and financials cannot be directly compared between the two without adjusting for timing differences and balance sheet valuations. It is important to keep in mind that each method provides a different answer: cash shows the cash that flows through the business, while accrual illustrates true profitability. Consider the picture you want to convey to the reader when deciding which method to use in your reporting.
AgriSolutions can help you navigate the complex realm of accounting with professional guidance. With services available at several levels and customizable to meet your specific needs, we provide everything from basic services like bank statement processing to full-service accounting. Whatever your needs, we’ll work with you to find the solution that’s right for your farm operation.