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Modified accrual accounting is a techniques that combines the cash method of accounting with the accrual method of accounting. It is used to ensure that obligations are recorded when incurred and expenses are accounted for when paid. In essence, it accounts for items that are measurable and available in accounts. Government agencies frequently use this method.
The primary purpose of the modified accrual accounting method is to avoid the appearance of having a surplus when it is actually earmarked for a future purpose. For this reason, revenues are recognized when they are available to be used towards liabilities. This does not necessarily mean that the funds are immediately available, but rather that they will be collected within the short-term. A typical period limit for receipt of funds with this method is 12 months.
Though in modified accrual accounting liabilities are frequently accounted for in the period in which they are incurred, there are some exceptions. One is with inventory which can either be accounted for when bought or used. Encumbrances such as mortgages and liens may also be accounted for in different periods. Interest from long-term debt can be shown on the date that it is due instead of the period in which it is incurred as well.
One of the benefits of modified accrual accounting is that it clarifies short-term — such as monthly — financial reports by showing true financial status. This can give a clear picture of finances to parties who do not work daily with an organization but need clarity into the organization’s financial affairs. For this reason, the method can be particularly useful for organizations which work with groups such as a board of directors.
Cash basis is one of the methods incorporated into modified accrual accounting. It is a fairly straightforward method, where entries consist of withdrawals and deposits as they happen. The drawback of the cash method is that it only shows current and past expenditures, rather than accounting for known future expenses or commitments. This can give financial statements the appearance of having a surplus.
Accrual basis is the other method incorporated into modified accrual accounting. Rather than recording actual cash flow, this method is used to track transactions. An entry is made when a commitment has been made to pay, rather than when payment is actually received. The method does not record when cash is received or a debt is paid. This method can be used for incoming cash or anticipated expenses.