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ASC 305 Cash and Cash Equivalents
Perspective and Issues
Subtopic
ASC 305, Cash and Cash Equivalents, contains one subtopic:
- ASC 305-10, Overall, that provides implementation guidance on cash on deposit at a financial institution.
Scope
ASC 305 applies to all entities and has no scope exceptions.
Overview
Assets displayed on the statement of financial position are the resources available to the reporting entity to support its current and future operations. To provide information about liquidity, the assets are often divided into current and noncurrent assets. Current assets consist of cash and other assets that are reasonably expected to be realized in cash or sold or consumed during the normal operating cycle of the business. When the normal operating cycle is less than one year, a one-year period is used to distinguish current assets from noncurrent assets. If the operating cycle exceeds one year, the operating cycle is the proper period to use for current asset identification. When information about current assets is accompanied by information about current liabilities, readers of the financial statements can assess the amount of net working capital (current assets less current liabilities) possessed by the reporting entity and its current ratio (current assets divided by current liabilities). Each of those measures provides useful information about the liquidity of the reporting entity.
Cash is the most liquid of assets, and cash items are generally classified as a current asset.
Practice Alert
The classification of investments as cash equivalents is a frequent topic of SEC comment letters. While SEC rules only apply to public entities, preparers of financial statements can benefit from the findings of SEC reviewers. Preparers should bear in mind that an investment does not meet the ASC 230-10-20 definition of a cash equivalent unless the security is purchased very near its stated maturity date. Unless the investments are purchased three months or less before their maturity date, investments with stated maturities greater than three months cannot be classified as cash equivalents. For further information, see the Definitions of Terms section below and discussion of cash classification later in this chapter.
Definitions of Terms
See Appendix A, Definitions of Terms, for definitions of Cash and Cash Equivalents.
Concepts, Rules, and Examples
Cash
To be included as cash in the statement of financial position, funds must be represented by coins, currency, undeposited checks, money orders, drafts, and demand deposits that are immediately available without restriction. Recognition and measurement of cash is generally straightforward. However, it is necessary to inform readers of the financial statements about any limitations on the ability to use cash in current operations.
Cash whose use is restricted would not be included with cash unless the restrictions on it expire within the year (or the operating cycle, if longer). Thus, cash 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. However, if material, it would be reported on a separate line rather than within cash. Cash in a demand deposit account that is being held for the retirement of long-term debts that do not mature currently is excluded from current assets and shown as a noncurrent investment. Cash in transit to the reporting entity (e.g., checks already mailed by the customer) cannot be included in cash because it is not under the control of the reporting entity.
Compensating Balances
An entity will often be required to maintain a minimum amount of cash on deposit, generally in connection with having a borrowing arrangement with a financial institution (compensating balance). The purpose of this balance may be to substitute for service fees foregone by the bank (or fees at a rate less than market) or simply to increase the yield on a loan to the lender. Since most organizations must maintain a certain working balance in their cash accounts simply to handle routine transactions and to cushion against unforeseen variations in the demand for cash, borrowers often will not find compensating balance arrangements objectionable. Nevertheless, the compensating balance is not available for unrestricted use and penalties will result if it is used. If material, the portion of the reporting entity's cash account that is a compensating balance must be segregated and shown as a separate caption on the statement of financial position, and this should be included in noncurrent assets if related borrowings 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, it is acceptable to show the compensating balance as a separately captioned current asset.
Cash not Immediately Available
Cash in savings accounts subject to a statutory notification requirement and cash in certificates of deposit maturing during the current operating cycle or within one year may be included as current assets but, if material, is to be separately captioned in the statement of financial position to avoid the misleading implication that these funds are available immediately upon demand. Typically, such items will be included in the short-term investments caption, but these could be labeled as time deposits or restricted cash deposits.
Overdrafts
A reporting entity may issue checks with a dollar value exceeding the balance in its checking account. If the excess amount of these checks over the checking account balance has not yet cleared the bank, the overage is called a book overdraft, since the overdraft only exists in the reporting entity's accounting records. For reporting purposes, although the bank is yet unaware of this situation, the overdraft is reported as a liability, since the checks have already been released and are thus no longer under the control of the reporting entity. If the checks have cleared the bank, and the bank has advanced the reporting entity the funds (sometimes marketed as “automatic overdraft protection”), then this borrowing is also reported as a liability.
Petty Cash
Petty cash and other imprest cash accounts are usually combined in financial statements with other cash accounts.