What you don’t know about your financial statements could be hurting your practice

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Do you know how much cash your professional practice has available for owner/provider and staff compensation? Perhaps you think that the bottom line number on your monthly income statement should answer that question for you. However, if your financial statements are compiled on a cash basis, that number can be misleading.

The cash basis of accounting records income as it is received and expenses as they are paid. The accrual method of accounting, on the other hand, recognizes income when it is earned and expenses when they are incurred, regardless of when the money actually changes hands. For most professional practices, the cash basis of accounting is the most practical approach and the most commonly used, and frankly, it’s the method of accounting that is most easily understood by practice owners. However, it can also lead to some pitfalls. Practices that don’t plan for retirement plan expenses, fixed asset purchases and other periodic payments can face an unwelcome surprise at the end of the year or the quarter.

3 Financial Statement Blind Spots

If you’re relying on cash basis financial statements, following are three blind spots that can keep you from having an accurate view of your financial situation—which can ultimately lead to a cash-flow crisis.
  1. Retirement plan contributions. Cash basis financial statements that do not include monthly accruals for retirement plan contributions can result in unrealistic compensation numbers for medical/dental providers.  At a minimum, the CPA or bookkeeper should assist the practice with cash flow discipline by accruing retirement plan expenses throughout the year as the liability is incurred. This will allow owner/provider monthly compensation calculations to be based on reality.  Also,  by accruing the retirement plan contributions monthly, the annual retirement plan contributions will have been saved by year-end.
  2. Capital expenditures. Generally, purchases of fixed assets are recorded as assets on the balance sheet, and depreciation expense is recorded monthly or annually on the practice books for those fixed assets. However, depreciation will likely not accurately reflect the actual effect of the purchase of fixed assets on the cash flow of the practice, so professional practices need to determine the accounting entries that will most accurately reflect the effect on cash flow.For some practices, this method may simply be to record Section 179 expense (election to expense the cost of fixed asset purchases) as a journal entry in the month fixed assets are purchased.  However, if there is uncertainty as to the availability of the Section 179 deduction or if fixed asset purchases are financed, an adjustment on the income allocation worksheets to reflect the monthly cash required for debt service may be the best way to reflect the effect of fixed assets on the cash flow of the practice.
  3. Expense allocation. Determining how to allocate costs to the owners/providers in your group is an issue that can make any practice manager’s hair turn grey. While there is no perfect professional compensation method, better information about your costs can help you and practice owners arrive at the most equitable approach. If your current financial statements don’t provide the level of detail you need about the costs that are being incurred and allocated to each provider in the professional compensation calculation, ask your CPA to help you set up a more detailed chart of accounts or prepare special reports from your accounting system.

Take Time to Communicate

Now that you have a more realistic view of the practice’s financial position, you are armed with the information you need to lead discussions with your owners/providers about how to move forward. It’s not always easy to get busy professionals to take time to focus on practice management, but remind them that regular communication about these issues can help the practice avoid surprises, improve profitability and improve the cost allocation methodology in the owner/provider compensation calculation. At a minimum, schedule a monthly hour-long meeting to discuss these important practice management issues.
Running a medical or dental practice requires discipline and planning. Stockman Kast Ryan+CO can help you produce meaningful financial reports so you can avoid surprises and cash-flow crises.
SKR+CO Expert
Judy Kaltenbacher, CPA, Tax Partner
Judy has been in public accounting since 1985, with significant experience serving medical practices, real estate partnerships, S-Corporations, financial institutions, nonprofit organizations and small business clients.