For the past 15 years, Damona Doye, Oklahoma State University Extension economist from Stillwater, has helped producers transition from shoeboxes of receipts to computerized farm financial records.
“A computerized recordkeeping system provides more access to your information in different ways that can help support decisions within the business,” Doye says.
With just a few keystrokes, Doye can summarize expenses on different enterprises for the year. In the bat of an eye, she can report the income from the cow-calf operation, stocker segment and hay production. When land comes up for sale, she can quickly crunch the numbers to capitalize on the opportunity. And tax time is a breeze.
Try doing that with just a box of receipts.
The first reason people initiate electronic financial recordkeeping is to make tax time easier, but that's just the tip of the iceberg.
“This 1040 doesn't really tell me what I'm doing with my cowherd,” Jim Lowe recalls thinking, wondering what other tools existed for tax time and management decision-making. Lowe, a producer turned practitioner with Midwest MicroSystems in Lincoln, NE, wanted to be able to analyze his operation as a set of enterprises.
“To really break down my operation and make choices about how to utilize my resources best for my bottom line, I needed to be able to break them out separately,” he says. That means a separate analysis for the cow-calf operation, backgrounding phase, pastures and hay production.
“Enterprises” is a difficult concept for producers to grasp. “A lot of people don't think of their operation in terms of different profit-and-loss centers within the overall farm,” Doye says. But by examining enterprises within the business using financial statements, users have another tool in communicating with lenders and business partners for the purposes of planning, setting budgets and seeking financing.
Unfortunately, there's no handy comparison of accounting software programs. But software is available in a variety of price ranges to meet an array of needs — some specific to agriculture, others more generic. Quicken ($30 and up) and QuickBooks ($100 and up) are generic and readily available (www.intuit.com). Doye has worked extensively with Quicken and believes its user-friendliness makes it a good choice for producers.
More agriculture-specific software is available from FarmWorks ($400 for FarmFunds), FarmBiz ($249 and up) and Red Wing ($995 for CenterPoint). But these are just a few products in a large sector of the market.
Rather than advocate any one product, it's best to begin by considering what types of features are important to a producer and his or her business. For example, is there a need for payroll, or are there off-farm income and retirement accounts to track?
Which brings up the consideration: Do you need accounting software tailored specifically for farm and ranch? The reviews are mixed.
On one hand, people want to track finances and off-farm investments, such as retirement accounts. “Quicken is designed for personal finances,” Doye says. “You give up some of that by going to a tool that's specialized for an industry.”
On the other hand, industry-specific software offers links with production records — crops or livestock. Linking financial records and production records results in analysis, such as cost of production/acre or cost/cow.
Doye recommends asking yourself: “How important are those production links?” These links are the next step in transforming accounting records for tax purposes to useful data for making managerial decisions. If production links aren't available, data can be exported into an Excel spreadsheet.
Another important aspect is flexibility. “It's important to be able to move into greater detail with an application when you're ready,” Lowe says. There should be flexibility in personalizing the software for specific business needs (i.e., chart of accounts).
Then chat with your accountant or tax preparer about what's best for your operation. See sidebar, “A buyer's checklist,” p. 52.
Three fundamental tools generated from a bookkeeping system are the cash flow statement, income statement and balance sheet. The backbone of your bookwork is the chart of accounts — a classification scheme of asset, liability, income and expense accounts, each of which fit into the fundamental accounting equation: assets = liabilities + owner's equity.
Assets include land, equipment, feed in the bin, etc. Liabilities include bank debt, bills and credit cards. Income and expense accounts reflect cash being paid and received, factoring into owner's equity.
The chart of accounts is tailored to fit each operation. When determining labels for income and expense accounts, Doye suggests starting simple — use Schedule F from tax forms. She has producers bring in three years of tax records to determine averages for categories such as feed, fuel and repairs. This is helpful in tracking business expenses and trends.
“Any one year may be distorted by drought or unusual circumstances,” Doye says, “but if you get three years, you can get an idea of what the average is.” For instance, if repairs trend upward each year, it may be a signal to invest in new machinery or equipment.
Cash and accrual methods (sometimes called cash basis and accrual basis) are two principal methods of monitoring income and expenses. Essentially, the only difference is when transactions are credited and debited to an account.
Accrual accounting reflects when transactions are incurred and recognized, regardless of when money is received or paid. Cash accounting reflects transactions when money is received or paid.
Regardless of the method, Allbusiness.com states that each only provides a partial picture of the financial status of the business. Accrual reflects the ebb and flow of business income and debt more accurately, but can be misleading in reflecting cash reserves. The cash method more accurately reflects cash reserves, but can paint a misleading picture of long-term profitability. The IRS allows agricultural producers to use cash accounting for reporting tax purposes.
Then, there's single- and double-entry accounting. Single entry is a record of day-to-day income and expenses. Double entry records corresponding debit and credit entries for each item, and ensures they are equal so the books always balance.
Doye favors the single-entry cash method, “because it's easier for producers who aren't trained as accountants.” Like most accountants, Lowe favors double entry, because both sides of the accounting equation agree.
A few more points to consider
But before you get started with receipts in hand, Doye stresses the importance of consistency.
“Any time you're trying to analyze records, if you haven't been consistent in the labels you're using, it's really going to impact how meaningful your records are,” Doye says.
She also advises discipline. If you start to let things stack up not opening mail, filing or entering information in the software program — it gets overwhelming fast. “And you won't have the information you need in a timely fashion to be able to really use it for management purposes,” she adds.
Transactions such as income and expenses should be updated monthly at the least, Doye says. Financial statements and cash-flow summaries should be examined quarterly or semi-annually, depending on the business. Producers should consider a quarterly balance-sheet review, as many bankers who grant operating loans prefer to see balance sheets on a quarterly basis, as well as cash flow and income statements. Once a year, the whole set of financial statements should be reviewed.
“If you've invested a lot of time and energy in having a good recordkeeping system, you don't want it to disappear if your hard drive goes down,” Doye says, so make a backup of the file monthly when transactions are entered, put it on a jump drive or CD and consider storing it offsite.
Keep your receipts. Records on capital assets should be kept indefinitely or until they're sold. Tax records, as a general rule, need to be on hand for three years. Visit www.irs.gov for more information.
Though financial recordkeeping is often implemented to satisfy tax needs, Lowe hopes producers would see past the “have-to” and realize the potential of understanding an operation's finances.
“The accounting system can be their friend; it can help them do better in business by understanding what's going on in their business,” Lowe says. “It will help you do better at meeting your goals.”
A buyer's checklist
Ashley Lovell, Texas Cooperative Extension Specialist and Tarleton State University professor, offers this checklist to consider when evaluating computerized farm accounting systems:
Is the package single-entry or double-entry?
Does the package provide both cash and accrual reports?
Does the package support enterprise-level records and reports?
How time consuming and difficult is the initial software setup, tailored to the farm or ranch?
Does the system update as transactions are entered?
How flexible and user-friendly is the report generator?
With the exception of payroll tax tables and reports, is it necessary/required to update the software annually?
What support does the software vendor offer (phone, training, Web-based)?
Is a full-feature demonstration available?
Does the software interface with spreadsheet, database and word processing software?
What level of accounting and computer expertise is necessary for entering data and assessing the accounting printouts?
What are the minimum hardware and operating requirements to efficiently run the software?
What are the data-storage requirements?
What is the full cost of the system, including the initial software, all necessary modules and charges required for updates and technical/accounting support?
For Lovell's complete checklist, visit Iowa State University's Ag Decision Maker Web site at: www.extension.iastate.edu/agdm/wholefarm/html/c6-32.html.
In this series…
October — “Recordkeeping”
A comparison of cowherd recordkeeping software and what to consider.
December — “Analysis”
Combining herd performance and accounting records to run year-end analysis.