In the previous blog post, we discussed one area in which accrual basis financial statements are different than a tax basis statement. If your accountant is providing you with only an income tax basis financial statement for your bond applications, that income tax basis statement almost always understates your company’s financial strength and performance.
The treatment of tax depreciation schedules is another area that illustrates how these two different types of financial statements can affect a company’s bond application.
Typically, in order to reduce taxes owed in current years, your accountant helps depreciate your business assets over the shortest time period allowed by the Internal Revenue Code. The annual amount of depreciation is listed as an “expense” on your income tax return, and it is used to reduce your company’s taxable income for the year. However, once these assets have been fully depreciated for tax purposes, they no longer are shown as having any value on your company’s income tax basis financial statement. Your company may own tens (in some cases, hundreds) of thousands of dollars’ worth of equipment, but if that equipment has been fully depreciated, the surety company may not be able to recognize it as contributing any value to your company.
For accrual basis financial statements, the depreciation schedules are different and allow you to show at least some of the actual market value of your fully depreciated equipment. Accrual basis depreciation schedules depict the depreciation of your business assets over a period more consistent with their useful life. They also may leave you with a “salvage value” at the end of the depreciation period. As a result, the associated financial statements typically will show your company’s net income as being higher from year to year. The amount of equity will be higher as well.
In almost all cases an accrual basis financial statement will significantly improve how your company’s annual performance and present financial condition appears to a surety company.
Goldleaf Surety is here to assist you in obtaining a solid surety program.
This article is not intended as general tax advice. Readers are encouraged to seek separate tax counsel on all of these matters.