Chapter 8 - Cash and Cash Equivalents

This set of flashcards covers key concepts and terminology related to cash and cash equivalents in accounting, as discussed in Chapter 8.

Cash

Includes money and other negotiable instruments that are payable in money and acceptable by the bank for deposit and immediate credit.

Cash Equivalents

Short-term, highly liquid investments that are readily convertible into cash and present insignificant risk of changes in value because of changes in interest rates.

Petty Cash Fund

A small amount of cash on hand used for minor expenses, maintained using either imprest or fluctuating systems.

Bank Reconciliation

A schedule prepared that accounts for the differences between cash balances per book and bank statements.

Outstanding Checks

Checks that have been written and recorded in the cash account but have not yet been cleared by the bank.

Deposit in Transit

Amounts received and recorded by the company but not yet reflected in the bank statement.

Reconciliation Items

Items that either affect the book balance or the bank balance to achieve agreement in bank reconciliation.

NSF Checks

Checks that were deposited but returned due to insufficient funds (Non-Sufficient Funds) in the issuer's account.

Interest Income

Earnings received from a bank for the use of cash deposited in an account, often credited monthly.

Bank Service Charge

Fees charged by the bank for maintaining the account or for specific transactions, such as checks and overdrafts.

Compensating Balance

A minimum balance that must be maintained in a bank account as part of a loan agreement.

Change Fund

A fund provided to cashiers for making change which is not to be used for other purposes.

Money Market Instruments

Short-term debt securities issued by governments or corporations that are highly liquid.

Treasury Bills

Short-term government securities with maturities that typically range from a few days to one year.

Bank Drafts

A payment instrument issued by a bank on behalf of a customer, guaranteeing that a specified amount of money is available.

Cash Over and Short Account

An account used to record discrepancies between actual cash on hand and the amount reported.

Proof of Cash

An expanded bank reconciliation that includes proof of cash receipts and disbursements over a specific period.

Imprest System

A method of managing petty cash wherein a fixed amount of cash is kept and reimbursed periodically for expenses incurred.

Fluctuating Fund System

An approach to petty cash management where the fund balance can vary based on transaction needs.

Customer's Postdated Checks

Checks that have a date in the future and cannot be processed until that date has arrived.

Cash in Bank Overdraft

A situation where a company withdraws more money from its bank account than is available, resulting in a negative balance.

Collectibles

Amounts that are expected to be collected from customers as represented by receivables.

Theory: Criteria for Cash Equivalents

According to PAS 7, cash equivalents are short-term, highly liquid investments that are readily convertible to known amounts of cash. They must have a maturity of 3\text{ months} or less from the date of acquisition.

Theory: Treatment of Customer's Postdated Checks

These should be excluded from cash and reported as accounts receivable because they are not acceptable by the bank for immediate credit until the date on the check.

Audit Problem: Adjusted Bank Balance Formula

\text{Bank Bal.} + \text{DIT} - \text{Outstanding Checks} \pm \text{Errors} = \text{Adjusted Cash}

Audit Problem: Adjusted Book Balance Formula

\text{Book Bal.} + \text{CM} - \text{DM} \pm \text{Errors} = \text{Adjusted Cash}

Theory: Classification of Bank Overdrafts

Generally classified as current liabilities. They cannot be offset against other bank accounts unless there is a legal right of offset in the same bank.

Audit Problem: Petty Cash Year-End Adjustment

If not replenished, an adjusting entry is required: Debit various expense accounts and Credit Petty Cash Fund to ensure expenses are recorded in the correct period.

Theory: Treatment of Restricted Compensating Balances

If restricted, exclude from cash. Report as current asset (if short-term loan) or noncurrent asset (if long-term loan).

Audit Problem: Determining Cash and Equivalents

Problem: Cash in bank \$20,000, Petty cash \$500, 90-day T-bill \$5,000, 180-day CD \$10,000. Calculation: \$20k + \$0.5k + \$5k = \$25,500. The CD is excluded (>3\text{ months}).

Theory: Stale Checks in Audit

Checks outstanding for >6\text{ months}. Auditor must add back to cash: Debit Cash; Credit Accounts Payable (or Misc. Income).

Audit Problem: Cash Over and Short Calculation

Shortage entry: Debit Cash Over/Short and Credit Cash. Surplus entry: Debit Cash and Credit Cash Over/Short. A debit balance is treated as a Miscellaneous Expense.

Audit Theory: Treatment of Undelivered Checks

Checks written and recorded but not delivered at year-end must be added back to cash and the related liability restored.

Audit Problem: Handling NSF Checks

When a check is returned NSF, the auditor ensures an adjusting entry: Debit Accounts Receivable and Credit Cash.

Theory: Imprest vs. Fluctuating System

Imprest: Petty Cash account balance remains constant (fixed). Fluctuating: Petty Cash account balance changes with every transaction.

Audit Measurement: Foreign Currency Cash

Cash in foreign currency should be translated using the closing (spot) exchange rate at the end of the reporting period.

Audit Problem: Formula for Adjusted Receipts

\text{Bank Receipts} - \text{DIT (Beg)} + \text{DIT (End)} = \text{Adjusted Receipts}

Audit Problem: Formula for Adjusted Disbursements

\text{Bank Disb.} - \text{OC (Beg)} + \text{OC (End)} = \text{Adjusted Disbursements}

Audit Problem: Reconciling Book Receipts

\text{Book Receipts} - \text{CM (Prior)} + \text{CM (Current)} = \text{Adjusted Receipts}

Audit Problem: Reconciling Book Disbursements

\text{Book Disb.} - \text{DM (Prior)} + \text{DM (Current)} = \text{Adjusted Disbursements}

Audit Theory: Proof of Cash Benefit

The four-column proof of cash detects timing differences and ensures receipts and disbursements are recorded in the proper months.

Audit Problem: Calculating Adjusted Cash Balance Proof

Example: Bank Bal \$40,000, DIT \$8,000, OC \$3,000. Calculation: 40,000 + 8,000 - 3,000 = 45,000.

Audit Problem: Calculating Unadjusted Book Balance

Work backward from Adjusted Bal: \text{Adj. Cash} - \text{CM} + \text{DM} = \text{Unadjusted Book Bal.}

Audit Problem: Book Error in Disbursement

If a \$890 check was recorded as \$980, the disbursement is overstated. Correct by adding back \$90 to the book balance.

Audit Problem: Evaluating Bank Error on Deposits

If the bank erroneously credited your account for another firm's \$5,000 deposit, subtract \$5,000 from the bank statement balance.

Audit Problem: Calculating Unadjusted Bank Balance

Work backward from Adjusted Bal: \text{Adj. Cash} - \text{DIT} + \text{OC} = \text{Unadjusted Bank Bal.}

Audit Problem: Solving for Total Outstanding Checks

\text{Checks Issued} - \text{Checks Cleared} + \text{Beg. OC} = \text{End. OC}

Audit Problem: Handling Multiple Errors

Example: \$10,000\text{ (Bal)} + \$2,250\text{ (Depo Error)} - \$50\text{ (Charge)} = \$12,200.

Audit Problem: Cash vs. Restricted Funds

Sinking funds for long-term debt are noncurrent. Customer postdated checks are receivables. These are excluded from the Cash and Cash Equivalents total.

Audit Problem: Petty Cash Shortage Entry

A shortage is identified when: \text{Cash Count} + \text{Vouchers} < \text{Imprest Amount}. Entry includes a debit to Cash Over and Short.

Audit Problem: Undelivered vs. Postdated Checks

Undelivered checks are added back to cash. Customer postdated checks are removed from cash and restored to accounts receivable.

Audit Problem: Stale Check Adjustment

Example: Check outstanding for 8 months is stale. Entry: Debit Cash \$2,500; Credit Accounts Payable \$2,500.

Audit Problem: Restricted Compensating Balance

If \$200,000 is restricted for a long-term loan, it is a noncurrent asset and excluded from the current Cash balance.

Audit Problem: Foreign Currency Year-End Loss

Example: €10,000 originally worth \$11,000 is now worth \$10,500 due to rate changes. Result: \$500 Foreign Exchange Loss.