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Step 1
Understand that GAAP-based financial statements require recognition of accruals, deferrals, allowances for depreciation of fixed assets, allowances and estimates for probable future events, and other complicated calculations to disclose all of a business's transactions in a way that fairly represents the company's financial condition. For many small businesses, this is "overkill," and is not necessary to give a workable picture of the company's financial state.
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Step 2
Recognize there are three common types of OCBOA financial statements. In cash basis accounting, only cash received and cash paid out during the year are recognized and recorded. In modified cash basis accounting, long-term assets and liabilities are accrued, while short-term income and expenses are kept on the cash basis. In income tax basis accounting, the financial statements are prepared primarily using financial information as it will appear on the income tax return.
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Step 3
Use OCBOA financial statements when these statements will not materially misstate the company's financial position. In other words, when OCBOA financial statements help the business owners and outside users, such as lending institutions and potential investors, get a clear and accurate understanding of the company's financial health, these simplified financial statements are more useful than GAAP-based financial statements. They are also less expensive to prepare because they take less time to calculate, and the information on the financial statements is usually transferred directly to the tax return, saving more time in preparing the tax returns.
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Step 4
Disclose the fact that the financial statements are OCBOA statements. Statement titles should clearly identify the method of accounting used. For example, the balance sheet might be titled, "Statement of Assets, Liabilities and Equity-Income Tax Basis." Notes to the financial statements should also disclose the differences between GAAP and the OCBOA method used in reporting. The notes should also include any material information not included in the financial statements, such as contingent liabilities, going-concern considerations and risks and uncertainties.
