Monday, June 12, 2017

Cash and Cash Equivalents

The Tax Lady-Helping you understand the components of the line item cash and cash equivalents on the balance sheet.



Definition of Terms:

Cash - Currency (bills and coins) on hand and balances in checking and savings accounts acceptable by the bank and available for immediate withdrawal. 

Cash Equivalents - These are short-term, highly liquid investments that are readily convertible to cash and are so near their maturity that they present insignificant risk of changes in value due to fluctuations in interest rates; a highly liquid debt instrument with maturities of less than three months.

Cash in Bank – This includes demand deposit or checking account and savings deposit which are unrestricted as to withdrawal.

Cash Fund – Cash set aside for a specific purpose.

Cash on Hand – This includes undeposited cash collections and other items awaiting deposit such as checks, bank drafts and money orders.

Compensating Balance – A minimum credit balance that a bank or a financial institution may require a borrower to keep on deposit as a condition for granting a loan. (it is a common requirement for establishing a line of credit in a bank.)


Overdraft/Bank Overdraft – A draft in excess of the cash balance in a bank. This happens when the issuance of checks is in excess of the deposits made in the bank.

Sinking Fund – A fund set up to accumulate money for payoff of a bond at a future date.It receives periodic contributions from the issuer that accumulate such at the time of maturity the balance in the sinking fund equals the par value of the bonds payable.

Frequently Asked Questions About Cash and Cash Equivalents:

When to classify an item as cash in the statement of financial position:
In order to be included as cash in the statement of financial position, funds must be represented by bills, coins, undeposited checks, drafts, money orders, and funds on deposit with a bank that are immediately available without restrictions.

Three (3) main items to be included in “cash”:
The three main items to be included in cash are 1) cash on hand, 2) cash in bank, and 3) Cash fund for current purposes like payroll fund, change fund, petty cash fund and dividend fund.

Items that are commonly INCORRECTLY included in the cash balance:
Postdated checks, certificates of deposit, IOUs, stamps, sinking fund, and travel advances are sometimes erroneously included in the cash balance of an entity. Please take note, these items should NOT be included as cash.

Why postdated checks not considered as cash:
These are checks that have a future date written on it. If an entity is a recipient of an postdated check, it is not considered as cash because such checks are not acceptable by the bank for deposit or immediate credit. Postdated checks are considered as accounts receivable... And a little side note ( The laws differ from state to state, but in short, once you sign the check, it becomes legal tender, so it's 100% legal for a bank to cash a postdated check before the date on it... Once you sign a check, it can legally be cashed- regardless of the date you wrote on it- by the payee)

Cash be valued on the balance sheet:
Cash should be valued at its face amount, meaning we follow what is written in the coin or the bill. A 100 dollar bill is valued at $100 and not at $50. (cash in foreign currency should be valued at the current exchange rate.)

Cash and cash equivalents situated in the statement of financial position:
Cash and cash equivalents is presented as the first line item in the statement of financial position. An example of a snapshot of a balance sheet is presented below:

B&E Company
Statement of Financial Position
December 31, 2016
Current Assets
  Cash                                                     150,000
  Short Term Investments                       150,000
  Total Current Assets                             300,000

Restricted cash be classified in the balance sheet:
Cash whose use is restricted would NOT be included with the line item cash unless the restrictions on it expire within one year or within the normal operating cycle whichever is longer. Accordingly, cash that is contractually required to be held in a sinking fund is classified as a current asset if it will be used to retire the current portion of long-term debt. Be that as it may, if material, it is to be reported on a separate line rather than with cash.

Cash deposited in a financial institution that has turned bankrupt, is in bankruptcy or in financial difficulty be valued:
If this is the case, cash should be written down to its estimated realizable value if the amount recoverable is estimated to be lower than its fair value.

Bank overdrafts:
Bank overdrafts are classified as current liabilities in the statement of financial position and should not be offset (deducted) against other bank accounts with debit balances. If an entity has two or more accounts in one bank and one account results in an overdraft, that overdraft could be offset against the other bank accounts in the same bank with debit balances.

Necessary disclosures to be made with respect to cash and cash equivalents:
The details of items comprising “cash and cash equivalents” should be disclosed to the notes to financial statements.

Compensating balances:
Compensating balances that are not restricted according to use is still reported as part of cash. Notwithstanding, if the compensating balance could not be withdrawn anytime or is restricted according to use, the amount should be disclosed. If the amount is material, the restricted compensating balance should be reported separate from cash with the account title “cash held as compensating balance” and should be reported under the noncurrent assets section if the related borrowings (debt instruments) are noncurrent liabilities. If the borrowings are current liabilities or if the compensating balance reduces fees that would have been incurred in the next year, the compensating balance should be shown as a separate line item in the current asset section of the balance sheet.

Common examples of cash equivalents:
Several examples include treasury bills, commercial papers, time deposits and money market funds. Note that these investments should have been acquired three (3) months or less before maturity.


Are Equity securities to be classified as cash equivalents:
No, equity securities cannot be classified as cash equivalents because shares of stock do not have maturity date.