Service Agreements – Escrow Accounting
Service agreement Escrow Accounting is an advanced feature exclusively available only in Total Office Manager Enterprise Edition. The feature is easy to use when used correctly.
Explained simply, escrow is when an asset (like cash) is set aside, pending fulfillment of a condition. Once the condition is met, the asset is free for use.
In Total Office Manager®, escrow accounting is the means by which up-front money collected on service agreement sales is set aside and held in a liability account, pending fulfillment of the actual work promised in the agreement. Once the condition of completing a planned maintenance work order is met, then a certain amount of money held in the escrow liability account is free to be recognized as income. This process prevents all of the prepaid cash from being recognized as income prematurely, thus more closely adhering to accrual accounting principles and the benefits thereof.
For example, imagine the sale of a two-visit service agreement. The prepaid funds received from the customer is not yet truly income because no planned maintenance visits have taken place. If the customer cancelled the agreement before completion of any maintenance visits, we would be liable to the customer for their prepaid money. It is only after each planned maintenance visit is completed, that half of the collected money can truly be recognized as income. Until the condition of performing a maintenance visit has been met, the money is kept in an escrow liability account.
The Escrow Accounting feature must be enabled prior to use. This is done in the Service Agreement area of system preferences. Access system preferences from the main menu by clicking Edit > Preferences. See the related topic, “Preferences – Service Agreements” for more information.
When the Escrow Accounting feature is enabled in system preferences, a warning is displayed (see illustration below). This warning advises that escrow accounting is an advanced feature and should only be used after consulting an accounting expert. The Escrow Accounting feature is intended for users who have a solid grasp of accounting. It is strongly recommended that the Escrow Accounting feature be completely and thoroughly understood before implementation. Read, contemplate, and re-read the information contained herein over-and-over as necessary until total comprehension of the feature is achieved. Misuse of the escrow accounting feature can potentially lead to accounting problems not covered under any support plan Aptora provides.
It is also advised that the Escrow Accounting feature may not be legal in all states and there are tax implications. It is your responsibility to determine the legality of escrow accounting use in your location.
Overview of the Process
After setting up each service agreement as an invoice item, the day-to-day process of using escrow accounting service agreements is not much different than using ordinary service agreements. However, it is extremely important that the proper steps be taken in sequence through completion. The specifics are discussed in detail below, but the basic steps are:
- Sell a service agreement to a customer,
- Create (record) the new service agreement for the customer, and
- Create the planned maintenance work orders for the service agreement.
As long as the previous general steps are followed in order and without interruption, escrow accounting service agreements should not be a problem to manage in an “enterprise-level” company.
Overview of the Escrow Accounting Transactions
The behind-the-scenes transactions which occur when using service agreement escrow accounting are as described below. Understanding these transactions, when they happen, and the concept as a whole is important to properly manage escrow accounting service agreements in the system.
- When a service agreement is sold, the prepaid funds are temporarily recorded as income.
- In the next steps, as planned work orders are created, special journal entries are also created automatically.
- One journal entry is created to immediately move all of the prepaid funds from income to the escrow holding account.
- Other journal entries — one for each planned work order — are created which move a set amount of prepaid funds back into income on the date of each planned work order.
These journal entries are the backbone of service agreement escrow accounting. They are listed and managed through the Escrow Movement List. Under certain circumstances it may be necessary to modify these journal entries. Common situations which require this sort of activity are discussed later in this help topic.
Creating Service Agreement Invoice Items
Setting up a service agreement invoice item for escrow accounting is identical to setting up any other service agreement invoice item, with one exception. When escrow accounting is enabled, an additional field called “Escrow Holding Account” appears on the Accounting tab of the Add Item form. This is where to choose which liability account to use for holding prepaid money when a service agreement is sold to a customer.
It is recommended that a separate escrow holding account be used for each service agreement invoice item. This allows the escrow money to be tracked properly in various reports. In many cases the type of accounts setup for this purpose are “Other Current Liability” accounts. Consult your accounting professional if unsure of the account type to use for service agreement escrow accounts.
Note: When escrow accounting has been enabled in system preferences, an “Escrow Holding Account” field appears on the Accounting tab of the service agreement Add Item form. The field is used to select the liability account to hold that service agreement’s unearned money until work is performed.
Selling an Escrow Accounting Service Agreement
The sale procedure of escrow accounting service agreements is identical to the sale of any service agreement until the “Do the Paperwork” reminder appears.
At this point it is critical to continue and create a “New SA” at that very moment. Do not choose to edit an existing service agreement. Do not cancel, with plans to finish the paperwork later. The only way to properly create the journal entries necessary for service agreement escrow accounting is to proceed directly from the service agreement sale to creating a new service agreement and it’s subsequent planned work orders. Failure to do so will result in the necessary journal entries not being created, and the escrow accounting portion of the service agreement setup not working.
Note: After selling any service agreement, a “Do the Paperwork” reminder will appear (outlined in cyan) will appear. This reminder refers to the “Services Agreements” dialog box (outlined in magenta) usually displayed behind it. When selling an escrow accounting service agreement, it is critical to create a “New SA” (see green arrow) and ignore the other choices.
Creating Escrow Accounting Service Agreements
After clicking the “New SA” button in the step above, the Edit Service Agreement window will appear. Review and confirm or adjust the displayed information brought forward from other related windows. Be sure to continue and create the planned work orders for the service agreement, which is covered below.
Creating Planned Work Orders
It is necessary to generate the planned maintenance visits before closing the “Add Service Agreement” window. The one and only opportunity for the necessary escrow accounting journal entries to be created is along with the planned work orders. If the “Add Service Agreement” window is closed even once without creating the planned work orders, the escrow accounting journal entries will never be generated, even if the form is re-opened at another time.
IMPORTANT NOTE: This is the only opportunity to create the journal entries required for escrow accounting. If this step is skipped, even with plans to return to the form later, the escrow accounting journal entries will not be created.
One noticeable difference in the “Planned Maintenance” window when escrow accounting is enabled, is the appearance of the “Escrow Amt.” column. The Escrow Amt. column displays the amount of prepaid cash which will be moved from the applicable escrow holding account and recognized as income on the date of each planned work order. These amounts are calculated automatically and are not editable.
Note: When creating planned work orders for escrow accounting service agreements, the amount of prepaid funds to be recognized as income on each work order date is displayed in the “Escrow Amt.” column (circled in green).
Create the planned work orders in normal fashion. The planned work order dates are proposed automatically and may be adjusted as necessary. These dates will subsequently be used for the escrow accounting journal entries automatically created as the work orders are generated. Refer to the related topic, “Service Agreements – Entering Existing Agreements”.
When the “OK” button is clicked, three important things take place:
- The planned work orders are created,
- The journal entry used to move the entire prepayment from income to the applicable escrow holding account is created, and
- The journal entries used to move portions of prepaid funds from that escrow holding account back to income are created.
Reminder: This is the ONLY opportunity to create these journal entries. These transactions can then be managed in the “Escrow Movement List” discussed below.
A confirmation window will appear, reporting the successful creation of new work orders. You will then be returned to the “Add Service Agreement” window, where the “Completed” and “Not Completed” fields will display updated information based on the work orders just created. When finished reviewing and editing information, save & close the window.
The Escrow Movement List
The Escrow Movement List is used to manage the escrow accounting journal entries. These are the necessary transactions which were automatically generated when the planned work orders were created. Although the planned work orders and their corresponding escrow movements were created together, once generated they are both completely independent of each other. Adjusting a planned work order will not have any effect on it’s associated escrow movement. Adjusting an escrow movement will not have any effect on it’s associated planned work order.
IMPORTANT NOTE: Once generated, Escrow Movements and Planned Work Orders are completely independent from each other. Modifying one will not modify the other.
- From the main menu, click Customers > Service Agreement Escrow Movement.
- To edit a transaction, right-click on it and choose Edit Transaction from the pop-up menu.
- To delete a transaction, right-click on it and choose Delete Transactions from the pop-up menu.
- To export whatever information is currently displayed in the list, right-click anywhere in the list and choose Export List from the pop-up menu.
Editing an Escrow Movement Transaction
From time to time it might be necessary to edit one of the escrow movement transactions. To edit a transaction, right-click on it and choose Edit Transaction from the pop-up menu. The Escrow Movement form will appear.
The Escrow Movement Form. The two editable fields are the Date field (see green arrow) and the Memo field (see magenta arrow). A “Created/Revised By” stamp (see gold arrow) displays the identity of the original creator and the most recent revisor of the form.
Common Situations Requiring Escrow Movement Actions
Rescheduling of Planned Work Orders
Planned Work Orders may be rescheduled freely and independently of their associated escrow accounting transactions. Each escrow movement will trigger on it’s set date, regardless of what happens to the corresponding work order. For instance, if a planned work order and it’s escrow accounting movement are both scheduled for June 1st, but the work order becomes rescheduled for June 5th, the escrow accounting movement will still happen on June 1st.
- If the time between a rescheduled work order and it’s escrow movement is short, it may be acceptable to allow the associated income to not be recognized simultaneously. For example, if a planned work order is rescheduled for only two days prior to the original escrow movement date, maybe it’s okay to “let it ride”.
- If the time between a rescheduled work order and it’s escrow movement is large, it may be desirable to manually open the Escrow Movement List and edit the date of the escrow transaction to match the date of the rescheduled work order. For example, if a planned work order is rescheduled for 36 days after the original escrow movement date, thus putting the work order not only into the next month but perhaps in the next fiscal quarter, maybe the date of the escrow movement should be made to match the work order.
In any event, these are policy matters for management in your company to resolve and set.
Service Agreement Cancelation
If a customer cancels a service agreement prior to some or all of the planned work orders being performed, some or all associated work orders should be marked as “canceled” from the Work Order List, the Schedule Board, or within the work order itself. Then, depending on the circumstances, the dates of the corresponding escrow movements are manually edited from the Escrow Movement List.
Cancellation Before Any Work Orders Are Completed – For example, if a customer cancels a 2-visit service agreement before any work is performed,
- Both of the outstanding planned work orders should be marked as “canceled”.
- The dates on both of the outstanding escrow movements should be adjusted to the current date.
Tip: Edit the transaction date of outstanding escrow movements to the current date. This immediately moves those prepaid funds to income, thus available for use on a customer credit memo and subsequent refund check.
- A credit memo and subsequent refund check can then be issued to the customer. The best way to create this credit is from the original service agreement sales form. Open the original sale then click Menu > Create > Credit.
Tip: To issue a credit memo for a canceled service agreement, open the original service agreement sale and click Menu > Create > Credit.
When the credit memo opens, it will already contain customer and item information based on the original sale. An internal memo is even automatically proposed.
A credit which is created from an original sale or invoice, brings forward important information and also proposes an internal memo (circled in green).
A refund check is produced from the credit memo by clicking Menu > Create > Refund Check.
Tip: Create a refund check from within a credit memo by clicking Menu > Create > Refund Check (see cyan arrows).
Cancellation After Some Work Orders Are Completed – For example, if a customer cancels a 2-visit service agreement after one work order has been completed,
- Only the outstanding planned work order should be marked as “canceled” (similar to above).
- Only the date on the outstanding escrow movement should be adjusted to the current date (similar to above).
- A credit memo and subsequent refund check can then be issued to the customer (similar to above). The major difference in this scenario is that the amount of the credit should be adjusted to half of the sales price because half of the work has been performed.
Although, the instructions above are for a simple 2-visit service agreement example, the concept extends to service agreements having many visits. Just cancel the outstanding work orders, adjust the dates of all outstanding escrow movements to the current date, and create a customer credit/refund for the amount of the outstanding planned maintenance visits.
- After the planned work orders have been created, the “Escrow Amt.” for each will be recognized as income on the original work order date, even if the actual work order is rescheduled for a different date.