Select two different types of HCOs and consider the most positive and most negative effects of using the cash versus accrual accounting method for the business.
Discuss the effect of the choices on revenue recognition and matching principles.
Compare and contrast the following items, pointing out their key elements: gross revenue and net revenue, patient service revenue and other revenue, and charity care and bad debt losses on the income sheet
Accounting in Healthcare Organizations (HCO)
Hospices and physician offices are some of the healthcare organizations that provide medical care to patients. Hospices are medical facilities that offer medical treatment to critical or terminally ill patients while physician’s private offices offer general medication to a wide range of medical treatment. Cash and accrual accounting concepts and practices are the major ways that most healthcare organizations maintain their financial records. Cash basis accounting systems differ from accrual basis as cash method reports cash and cash disbursements while accrual method records and tracks all economic activities in a company. Accrual accounting includes accounts payables and receivables. Revenues are recorded when earned and not when cash is received. The same way transactions are recognized when expenses have been incurred unlike in cash systems when transactions are recognized only when cash is received or paid (Romero, 2015).
The positive effect of using cash accounting in physician offices and hospices is that its application is easy to apply and record as most people understand the basic concepts of cash. There are also potential tax benefits when one is dealing with cash basis method. Accruals’ major negative effect is that revenues are recorded long before they are actually collected. Taxes are then paid based on revenues that have not yet been received hence the taxes on receivables could result in higher losses to the company if the debts are written off (Romero, 2015).
However, larger organizations like hospices may benefit more if they are using accrual accounting system compared to cash systems as the nature of their transactions are more voluminous compared to physician offices that have fewer transactions that are better suited for cash accounting systems. Hospices receive their payments long after the patients have used their services hence accrual accounting system is the best option (Romero, 2015).
In cash accounting systems, revenues are recognized when cash is received unlike in accrual system where revenues are recognized once transactions have taken place. In accrual accounting, systems revenues and expenses are matched with the period that the transactions relate to not when the cash was received. The matching accounting principle requires that all revenues that a company generates and all the related expenses should be recognized in the same accounting or financial period together. Hence, a cause-and-effect accounting relationship between the expenses and revenues are recorded at the same period ensuring that if profit or losses are declared, then all the expenses and revenues that were generated for the same period have been recognized and it forms the basis that accrual accounting is founded (Accounting Tool, 2019).
Gross revenue and net revenues are both revenues, but gross revenue in the income statement represents the balance of sales revenues after the cost of goods sold have been deducted while the Net revenue is the balance on gross revenue after the total expenses, interest and taxes incurred by the organization have deducted (Accounting Tool, 2019).
Patient service revenue is the total revenues received from the services offered to the patients that have been paid for while other revenues refers to the other sources of income that an organization can generate more income. Both charity care and bad debt losses are written off as losses to the company but charity care refers to the healthcare services offered to patients for free but bad debt losses on income statement are the debts or payables that were expected by the company but have since been confirmed that they can no longer be paid (Congressional Research Services, 2018). For example, debts that were owed by debtor who has since died or has gone bankrupt and there is no way he can make the payments.
Accounting Tool (2019). The Matching Principle. Retrieved May 7, 2019 from https://www.accountingtools.com/articles/2017/5/14/the-matching-principle
Accounting Tool. (2018). The Difference between Gross and Net Income. Retrieved May 7, 2019 from https://www.accountingtools.com/articles/what-is-the-difference-between-gross-and-net-income.html
Congressional Research Services. (2018). Hospital Charity Care and Related Reporting Requirements Under Medicare and the Internal Revenue Code. Retrieved May 7, 2019 from https://fas.org/sgp/crs/misc/IF10918.pdf
Romero, R. (2015). Cash and Accrual based Accounting in Your Practice, Ambulatory Advisor. Retrieved May 7, 2019 from http://www.ambulatoryadvisor.com/cash-and-accrual-based-accounting/