Financial Accounting

Module 5: Accounting for Cash

Module Learning Outcomes

Describe the accounting and reporting of cash and cash equivalents

5.1: Explain the concept of internal control over cash
5.2 : Establish and maintain a petty cash system
5.3 : Recognize the significance of the bank reconciliation as an internal control
5.4: Compare methods of recording credit card transactions
5.5 : Present cash and cash equivalents on the financial statements
Establishing Internal Controls
Learning Outcomes: Establishing Internal Controls

5.1: Explain the concept of internal control over cash

5.1.1: Identify principles of internal control
5.1.2: Identify common internal control activities
5.1.3: Apply internal control concepts to receipts
5.1.4: Apply internal control concepts to payments
Identify Principles of Internal Control

• According to the Committee of Sponsoring Organizations of the Treadway Commission,

there are five components of an internal control structure. When these components are
linked to the organization’s operations, they can quickly respond to shifting conditions.
• The components are:
• Control environment
• Risk assessment
• Control activities
• Information and communication
• Monitoring
Identify Common Internal Control Activities

Companies protect their assets by:

1. Segregating employee duties.

2. Assigning specific duties to each employee.
3. Rotating employee job assignments.
4. Using mechanical devices.
Identify Common Internal Control Activities

• In 2002, Congress passed the Sarbanes-Oxley Act (SOX),

which established rules to protect the public from
fraudulent or erroneous practices by corporations and
other business entities.
• SOX applies to all publicly traded companies in the United
States as well as wholly owned subsidiaries and foreign
companies that are publicly traded and do business in the
United State.
• SOX also regulates accounting firms that audit companies
which must comply with SOX.
• Even though private companies, charities, and non-profits are
generally not required to comply with every provision of SOX,
there are penalties for those organizations that knowingly
destroy or falsify financial data.
Identify Common Internal Control Activities

• Here are the most important SOX requirements:

• CEOs and CFOs are directly responsible for the accuracy, documentation, and submission of all
financial reports as well as the internal control structure to the Securities and Exchange Commission
(SEC). Officers risk jail time and monetary penalties for compliance failures—intentional or not.
• An Internal Control Report that states management is responsible for an adequate internal control
structure for their financial records. Any shortcomings must be reported up the chain as quickly as
possible.
• Companies must have formal data security policies, communication of data security policies, and
consistent enforcement of data security policies.
• Companies maintain and provide documentation proving they are continuously in compliance.
Apply Internal Control Concepts To Receipts

• Companies vary in how they implement internal controls, but they usually observe the
following principles:
• Prepare a record of all cash receipts as soon as cash is received. Most thefts of cash occur before a
record is made of the receipt. Once a record is made, it is easier to trace a theft.
• Deposit all cash receipts intact as soon as feasible, preferably on the day they are received or on the
next business day. Undeposited cash is more susceptible to misappropriation.
• Arrange duties to ensure that the employee who handles cash receipts does not record the receipts in
the accounting records. This control feature follows the general principle of segregation of duties
given earlier in the chapter, as does the next principle.
• Arrange duties to make sure the employee who receives the cash does not disburse the cash. This
control measure is possible in all but the smallest companies.
Cash Disbursements

• Companies also need controls over

cash disbursements. Since a company
spends most of its cash by check or
bank transfer (ACH, wire transfers,
etc.), many of the internal controls for
cash disbursements deal with the
authorization process.
• The basic principle of segregation of
duties applies in controlling cash
disbursements.
Cash Disbursements (part II)

• Make all disbursements by check or from petty cash. Obtain proper approval for all
disbursements and create a permanent record of each disbursement. Many retail stores
make refunds for returned merchandise from the cash register. When this practice is
followed, clerks should have refund tickets approved by a supervisor before refunding cash.
• Require all checks to be serially numbered and limit access to checks to employees
authorized to write checks.
• Require two signatures on each check over a material amount, ensuring that one person
cannot withdraw funds from the bank account.
• Arrange duties so the employee who authorizes payment of a bill does not sign checks.
Otherwise, the checks could be written to friends in payment of fictitious invoices.
• Require approved documents to support all checks issued.
Cash Disbursements (part III)

• Instruct the employee authorizing cash disbursements to make certain the payment is for a
legitimate purpose and is made out for the exact amount and to the proper party.
• Stamp the supporting documents as paid when liabilities are paid and indicate the date and
number of the check issued. These procedures lessen the chance of paying the same debt
more than once.
• Arrange duties so those employees who sign checks neither have access to canceled checks
nor prepare the bank reconciliation. This policy makes it more difficult for an employee to
conceal a theft.
• Have an employee who has no other cash duties prepare the bank reconciliation each month
and discover errors and shortages quickly.
• Void all checks incorrectly prepared. Mark these checks void and retain them to prevent
unauthorized use.
Practice Question 1

Sandy works in the accounting department of a small company. One coworker is in charge of
the Petty Cash account. Sandy notices ta few discrepancies when she takes over the Petty Cash
account when the coworker goes on vacation. Sandy looks back in the books and sees around
$25 a month it has been short for for the last three years. It looks like petty theft has occurred.
How could this theft have been avoided? 

A. Put $25 dollars less in the Petty Cash fund each month.
B. Set up a spreadsheet for the coworker to fill out himself. 
C. Having the Petty Cash checked monthly by another employee.
D. Increase the Petty Cash allowance $25 each month.
Accounting for Petty Cash
Learning Outcomes: Accounting for Petty Cash

5.2: Establish and maintain a petty cash system

5.2.1: Explain the voucher system
5.2.2: Demonstrate petty cash journal entries and reconciliation
Explain the Voucher System

The company treasurer or CFO establishes the petty cash

fund by writing a check, usually payable to “cash.” After
the check is cashed, the petty cash custodian places the
money in a small box that can be locked. The fund is now
ready to be disbursed as needed.

The custodian staples any source documents (usually a

receipt) to the petty cash voucher (some petty cash
vouchers are printed on envelopes to hold the receipts). At
all times, the employee responsible for petty cash is
accountable for having the cash and the petty cash
vouchers equal to the total amount of the fund.
Journalizing Petty Cash Transactions
Journalizing Petty Cash Transactions (cont.)

Date Description Post. Ref. Debit Credit

20–
Feb. 1 Shipping Expense 22.75
Feb. 1 Postage 50.80
Feb. 1 Office Supplies 19.05
Feb. 1 Cash Over/Short 1.15
Feb. 1 Checking Account 93.75

Feb. 1 To record check #1041 replenishing petty cash

Preparing a Bank Reconciliation
Learning Outcomes: Preparing a Bank Reconciliation

5.3: Recognize the significance of the bank reconciliation as an internal control

5.3.1: Identify common reconciling items
5.3.2: Prepare a bank reconciliation
5.3.3: Demonstrate journal entries related to bank reconciliations
Reconciling Items

• Most companies use checking accounts to handle their cash transactions. The company
deposits its cash receipts in a bank checking account and writes checks to pay its bills. Keep
in mind—a bank account is an asset to the company BUT to the bank, your account is a
liability because the bank owes the money in your bank account to you.
• The bank sends the company a statement each month that is really just a printout of the
bank’s ledger for your account, which is really a subsidiary ledger because the bank doesn’t
have a general ledger (GL) account for every depositor. The company checks this statement
against its records to determine if it must make any corrections or adjustments in either the
company’s balance or the bank’s balance. A bank reconciliation is a schedule the company
(depositor) prepares to reconcile, or explain, the difference between the cash balance on the
bank statement and the cash balance on the company’s books.
• And that is the main internal control for our “cash” accounts.
Reconciling Items (cont.)
Bank statement and GL should match. In accounting, we don’t think of reconciling as making
the records agree. It’s more about explaining the differences.

GENERAL LEDGER
Account: Checking Account No. 110
BALANCE
DATE ITEM POST. REF. DEBIT CREDIT
DEBIT CREDIT

20–

Oct 1 Balance a 0.00

Oct 1 GJ1 20,000.00 20,000.00

Oct 4 GJ1 12,000.00 8,000.00

Oct 15 GJ1 1,500.00 9,500.00

Oct 25 GJ1 2,600.00 6,900.00

Oct 26 GJ1 1,000.00 5,900.00

Oct 30 GJ2 1,600.00 7,500.00

Oct 31 GJ2 4,000.00 3,500.00

Bank Reconciliation

• The first steps are to:

• Adjust the bank balance for any timing
differences and/or the rare bank error
• Add deposits in transit
• Subtract outstanding checks so the bank
balance is adjusted to reflect
transactions the business made in one
month the bank didn’t record until the
following month because of lag time.
Reconciling Journal Entries
Practice Question 2

What is one of the common reasons that a bank statement and a company’s checking statement
are not always exactly indicating the same amount of funds?

A. Outstanding checks not received by the bank in the same time period.
B. Because the account is a liability to the bank. 
C. Because the bank uses a subsidiary ledger rather than a general ledger.
D. Deposits arrive simultaneously for both the company and the bank.
Accounting for Credit Card Transactions
Learning Outcomes: Accounting for Credit Card
Transactions
5.4: Compare methods of recording credit card transactions
5.4.1: Differentiate between three methods of recording sales by credit card
5.4.2: Demonstrate recording purchases by credit card
5.4.3: Describe the internal control processes related to credit card purchases and sales
Record Sales by Credit Card

A company’s accounting procedures for recording credit card sales will depend on
how the credit card or charge card transaction is being posted to the bank (which
depends on how you set up your service) and how the company then decides to
make the entry.

There are three possibilities:

• Net Method
• Gross Method
• Accounts Receivable Method
Record Purchases by Credit Card
GENERAL LEDGER
Account: First World Bank VISA Payable Account No. 210
BALANCE
DATE ITEM POST. REF. DEBIT CREDIT
DEBIT CREDIT
Bal fwd 427.89
Jan 20 GJ101 18.66 446.55
Jan 22 GJ101 452.32 898.87
Jan 22 GJ101 88.99 987.86
Jan 26 GJ101 54.54 1,042.40
Jan 31 GJ101 12.49 1,054.89
Feb 10 GJ101 427.89 627.00
Internal Controls for Credit Card Transactions

Here are three key internal controls for credit card use that you may want to consider putting in
place in your business:

1. A formal credit card policy. A written credit card policy serves as the foundation of a good credit (or
debit) card expense control system.
2. Substantiation. Original receipts must be submitted for all credit card charges, as these receipts
substantiate the purchases made with the card. The business purpose should be documented on the
receipt to ensure the charge was a legitimate business expense.
3. Regular statement reviews. A supervisor who is knowledgeable about the nuances of the business
(ideally not a credit card holder) should open and review all credit card statements and supporting
receipts to verify the propriety of the charges.
Financial Statement Presentation
Learning Outcomes: Financial Statement Presentation

5.5: Present cash and cash equivalents on the financial statements

5.5.1: Identify cash and cash equivalents
5.5.2: Demonstrate proper financial statement presentation of cash and cash equivalents
Cash and Cash Equivalents

• Cash and cash equivalents consist of cash on deposit with banks and highly liquid
investments with maturities of 90 days or less from the date of purchase.
• Coins
• Currency
• Cash in checking accounts
• Cash in savings accounts
• Bank drafts
• Money orders
• Petty Cash
• Commercial paper
• Marketable securities
• Money market funds
• Short-term government bonds
• Treasury bills
Proper Financial Statement Presentation of Cash and Cash
Equivalents
Practice Question 3

All of the following choices are examples of cash equivalents EXCEPT:

A. Money Orders
B. Inventory 
C. Treasury Bills
D. Marketable Securities
Quick Review

• What are the principles of internal control?

• What are common internal control activities?
• How do you apply internal control concepts to receipts?
• How do you apply internal control concepts to payments?
• What is the voucher system?
• How does an accountant perform petty cash journal entries and reconciliation?
• What are common reconciling items?
More Quick Review

• How do you prepare a bank reconciliation?

• How are journal entries related to bank reconciliations?
• What is the difference between the three methods of recording sales by credit card?
• How are purchases by credit card recorded?
• What is the internal control processes as related to credit card purchases and sales?
• What are cash and cash equivalents?
• How are cash and cash equivalents presented properly on financial statements?