Why cash accounting is bad for business

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Emily Coltman, who suggested AccountingWEB's campaign for cash accounting has posted a comment on my feature on this subject. Because I think it worth drawing to wider attention I am posting my response here.

Emily seems to concede my point that the management of working capital (debtors, creditors and stock in the UK, receivables, payables and inventory in the US) is vital in small business, and that accountants have a duty to talk about them. But she then says:

Not including them in the accounts is a different matter entirely.

I have to disagree. Tax is a powerful influence on behaviour, especially in the business community. So the choice of accounting method is very important. If people are allowed to account on a cash basis for tax they will do these things:

  1. delay collection of debtors
  2. advance payments to creditors
  3. overstock
  4. buy too many fixed assets if 100% capital allowances are implicit.

What is more, some accountants will tell them to do this. The outcome will be disastrous for UK small business. There can be no doubt some will go bust as a result. These strategies are designed to drain these businesses of money. Nothing can guarantee failure as quickly as that.

But more than that, if accountants can (and would) educate them to do this even though it would be suicidal, small business people can clearly demonstrate their ability to grasp issues relating to these matters. It's just that most accountants can't be bothered to tell them about them. I have always tried to advise my clients of the basis on which their accounts have been prepared, because I think this important. For example, I attach the notes to the accounts (which are menu driven and so not always used in all cases) which I have appended to unincorporated business accounts in the firms I have been involved with over the last decade. Their purpose is simple. The notes are about client education, and people do read them and learn from them. But I've never seen anyone else do anything like this. Why not, I wonder? Wouldn't the problem be solved if we did this?