Strange Accounting Method

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#1
HowardS  
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A relative of mine operates a successful service business.
He just changed CPA's and thought that his new CPA's estimated for 2020 tax liability was way too high so he asked me to run the numbers. I did, it came in a lot lower so we challenged the CPA's estimate.

What we found was that In QB he is including income for jobs in process but not yet invoiced. Payment is received the following year and he journals out the prior year's number.

So a 2019 QB cash P&L was $400K higher than actual revenue and the 2020 QB cash P&L is $400K lower than actual revenue.

He also uses this technique for some expenses.

To me, it makes preparing a tax return using the P&L almost impossible without knowing exactly what needs to be adjusted.

Is this something that is normally done? What documentation can you depend on when preparing a tax return?
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#2
sjrcpa  
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Were deposits received on these jobs in process?
 

#3
HowardS  
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No.
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#4
sjrcpa  
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Seems as though new accountant changed accounting method to percentage of completion.
a) With no 3115?
b) Probably not required for a service business
 

#5
HowardS  
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If percentage completion I would have expected some of the $400K to show up on the tax return. Instead, the journal entry that backed the entire sum out in 2020 was noted as "adjust accrual to actual".
The income item for this account is labeled "services - accrued not yet billed"
I think the accountant is selectively mixing cash and accrual treatment and I wonder if this is normal/acceptable.
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#6
sjrcpa  
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I don't think so.
 

#7
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The accountant could be taking an unnecessarily conservative position where he thinks that the claim of right doctrine applies ( which it seems like it should not in this example if we are talking about a normal vendor customer relationship with standard billing and payment arrangements )

And accruing expenses under this example would not be appropriate for a cash basis business

But do we know if the business is on a cash or accrual basis?

What type of service business are we talking about?
 

#8
HowardS  
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SMLLC, schedule C, cash basis.
Commercial Video production.

My relative is awarded a contract, shoots the commercial, invoices and is paid. Pretty standard stuff. I believe he is paid half when shooting is complete, half when final product is delivered.

The QB entry is being made when the contract is awarded, invoice goes out after the shoot and typically paid in 30-60 days.

Some additional info. My relative wants to see WIP financials for planning purposes and I think the accountant is using QB to show this. I'm wondering if this might corrupt his cash accounting method for tax purposes.
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#9
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I'm wondering if this might corrupt his cash accounting method for tax purposes.

In QuickBooks, if you are debiting some Balance Sheet account via journal entry, and crediting Income with that same entry, QuickBooks does not recognize this entry as an accrual. Thus, when you look at a Cash Basis P&L, for example, in QuickBooks, the Income will not reverse off of the P&L. This is easy to see by also looking at the cash basis Balance Sheet - the debit will still be on there. The only way to make this work in QB’s is to actually use the A/R Module. That is the only Balance Sheet debit that will reverse off when flipping from accrual to cash
 

#10
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Jeff-Ohio wrote:In QuickBooks, if you are debiting some Balance Sheet account via journal entry, and crediting Income with that same entry, QuickBooks does not recognize this entry as an accrual. Thus, when you look at a Cash Basis P&L, for example, in QuickBooks, the Income will not reverse off of the P&L. This is easy to see by also looking at the cash basis Balance Sheet - the debit will still be on there. The only way to make this work in QB’s is to actually use the A/R Module. That is the only Balance Sheet debit that will reverse off when flipping from accrual to cash


This. I bet this is majority of what is occurring. Accrual and cash are incorrect, accountant does journal entry involving both B/S and I/S and QB views it as both cash and accrual adjustment. To properly toggle between cash and accrual, the various modules need to be used--not GJEs unless all line items fall on the same financial statement.
 

#11
jon  
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Per Cent of Completion can that even be used here???? Accrual or Cash your choice - if you paid all vendors when invoiced you more than match time period between done and accepted or close..
 

#12
eze  
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% Complete would generally require a contracts in progress schedule and proper wip adjustment based on that schedule. This just sounds like a funky user of quickbooks. Was the client going for a loan? Maybe there was a borrowing reason for the odd entries. Usually when I see stuff like this, there is an underlying reason that no one wants to admit.
 


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