How to account for bank deposits?

June 21, 2010

1. Definition of cash and cash equivalents

When you deposit money into a bank account, what accounts are debited and credited? This is a question some people ask themselves after they return from a bank because the bank teller said, "We've credited your account for X dollars." Do you need to credit the cash account in your records then? Let us look closer at this situation by first understanding what cash and cash equivalents are and then by reviewing a few examples.

Cash and cash equivalents are balance sheet items that represent either physical money on hand or in bank accounts and other assets that can be easily converted to cash without a significant loss in their value.

Cash and cash equivalents may include but are not limited to:

  • currency;
  • checks received but not yet deposited;
  • checking accounts;
  • petty cash;
  • savings accounts;
  • money market accounts;
  • short-term, highly liquid investments with a maturity of three months or less at the time of purchase.

2. Bank debits and credits

The banker usually says, "I'll credit your checking account," which means the transaction will increase your checking account balance. Conversely, if your bank debits your account (e.g., takes a monthly service charge from your account), your checking account balance will decrease.

It may be confusing if you are new to the study of debits and credits in accounting because the accounting literature states that debiting the Cash account in the general ledger increases its balance whereas crediting the Cash account reduces its balance. To better understand what the banker meant and what happens in a company's own accounting records, let us look at two examples below with journal entries from both the bank's perspective and the company's perspective.

Example 1. ABC Company receives $500 in cash from a customer as a down payment for a future service. When the money is received, ABC Company makes the following entry:

Account Titles

Debit

Credit

Cash (Bank)

500

 

      Unearned Revenues

 

500

Next, ABC Company puts the money in its bank checking account. The bank will make the following entry in their books to record the deposit received:

Account Titles

Debit

Credit

Cash

500

 

      Deposits (ABC Company)

 

500

The Bank has not earned the $500; hence it cannot credit a revenue account. That is why the bank credits its liability account Deposits to reflect the bank's obligation to return the $500 to ABC Company on demand.

As you can see, the bank credited ABC Company's account in its records to reflect its obligation to the company. At the same time, the company recorded cash received as a debit in its books.

Example 2. Sometimes banks charge a monthly fee on checking accounts. If the bank decreases ABC Company's checking account balance by $45.00 to pay for the bank's monthly service charge, this might be itemized on ABC Company's bank statement as a "debit transaction." The entry in the bank's records will show the bank's liability being reduced (because the bank owes ABC Company $45 less). It also shows that the bank earned revenues of $45 by servicing the checking account of ABC Company.

The bank makes the following entry:

Account Titles

Debit

Credit

Deposits (ABC Company)

45

 

      Service Charge Revenues

 

45

ABC Company will also need to reflect the $45 service charge in its records when a bank statement is received. As the amount of cash in the checking account was reduced by the service charge, the company credits the Cash account and debits the service charge expense account:

Account Titles

Debit

Credit

Bank Service Change

45

 

      Cash

 

45

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