Intermediate financial Accounting I (IFA-I)

Chapter -3
Cash and Receivable
Cash Defined
Cash is anything that a bank would accept for deposit at face value.
Cash include coins, currency (Paper money), Checks, money orders
made payable to the business, bank drafts, and receipts from credit card
sales. Items such as postage stamps and post-dated checks (checks
payable in the future) are not cash. Stamps are a prepaid expense, the
post-dated checks are accounts receivable.
Characteristics of cash:-
 It is the most liquid asset
 Bears no identifying mark
 Easily transferable
 Easily portable ( transported )
Cash Equivalent Defined
To increase their return on investment, many companies invest idle
cash in assets called cash equivalent. Cash equivalents are short-term,
highly liquid investment assets meeting two criteria: (1) readily
convertible to a known cash amount and (2) sufficiently close to their
maturity date so that market value is not sensitive to interest rate
changes

Liquidity: All assets can be judged on their liquidity. Cash and similar
assets are called liquid assets. Cash and similar assets are converted easily
in to other assets or used to pay for services or liabilities. Because of these
characteristics, cash is the asset most susceptible to improper diversion and use.
To safeguard cash and to assure the accuracy of the accounting records of cash,
effective internal control over cash is imperative.
3.1 Perform Internal Control over Cash
Special controls are needed to protect cash because almost everyone
wants it, and it is easily taken if not protected. Further, it is often easy
to conceal that cash has been taken by altering accounting records. The
protection and control of cash are part of the overall system of internal
control.
Some common steps that are used to control and protect cash are:
 Those who physically handle cash (cashiers, clerk, etc.) and should
not be the same as those who account for cash (bookkeepers,
accountants).

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 All cash received should be deposited in a bank daily
 Only a small amount of cash (called petty cash) should be kept on
hand
 All cash payments, except for petty cash, should be made by check
 Cheeks should be pre numbered so that it is easy to see what cheeks
have been written and when.
 Only a few properly designated persons should be involved in the
receipt, payment, and recording of cash.
 Receipt and payment of cash should be recorded efficiently and
accurately
3.2 The Bank Account as a Tool of Controlling Cash
To get benefits from a bank account all cash received must be deposited in the
bank and all cash payments must be made by checks drawn on the bank.
The forms used by a business in connection with a bank account are; a signature
card; deposit tickets; checks and records of checks.
1. Signature card:-it must be signed by each person authorized to sign checks
drawn on the account at the account is opened.
2. Deposit ticket: - Is a source document given by the bank for the money
deposited by the depositor. Deposit ticket may be prepared in duplicate and
the copy is signed by the banks taller and given to the depositor as a receipt
3. Checks: - is a written instrument signed by the depositor ordering the bank
to pay a certain sum of money to the order of designated person.
There are three parties to a check
4. Records of checks drawn: - a memorandum record of the basic details of a
check should be prepared at the time the check is written.
Bank Statement: bank statement is a monthly report showing the
bank’s record of the checking account. The bank statement provides
the following information about customers’ cash accounts:
1. The balance at the beginning of the month
2. Additions in the form of deposits and credit memos
3. Deductions in the form of checks and debit memos and
4. The final balance at the end of the month
NOTE:
 CM (credit memo) increases or credits to the account, such as notes
or accounts left with the bank for collection
 DM (debit memo) Decrease or debits to the account, such NSF
checks, automated teller withdrawals, and service charges.

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 Bank Reconciliation
The bank statement and the cheek book are both records of a
depositor’s checking account transactions. The balance of checking
account reported on the bank statement is rarely equal to the balance
in the depositor’s accounting records.
The process of bringing the difference between the balance of a
checking account according to the depositor’s records and the balance
reported on the bank statement in to agreement is called Bank
reconciliation. It is a listing of the items and amounts that causes the
cash balance reported in the bank statement to differ from the balance
of the cash account in the ledger.
Among the factors causing the bank statement balance to differ from
the depositor’s book balance are:
1. Outstanding cheeks: check written by the depositor,
deducted/appear in the checkbook but not in the statement.
2. Deposit in transit (also called outstanding deposits): these are
deposits made and recorded by the depositor but not recorded on
the bank statement. E.g. Night deposits, deposits by mail and etc.
3. Service charges and other bank fees: banks charge a fee for
providing checking accounts. This fee, called a service charge.
Other charges that a bank may make include fees for imprinting
checks, fees for collecting money for the depositor and fees for
the use of ATMs.
4. Errors –it is not uncommon for depositors to make (E.g.)
arithmetic errors when making entries in a check book
5. Bank collections – some banks collect notes or securities for the
depositor and enter the amounts directly in the depositor’s
account. Such collections appear on the bank statement but not
in the checkbook.
6. NSF (Not sufficient funds) checks – when a check is deposited,
it is counted as cash. If the balance in the customer’s account is
not large enough to cover the check, the check is called NSF. The
bank initially credits the depositor’s account for the amount of
deposited check. When the bank learns the check is uncollectible,
it debits (reduces) the depositor’s account for the amount of that
check.
The bank statement is reconciled by the following steps
a) Deposit in transit – added to the bank statement balance
b) Outstanding checks – subtracted from the bank statement balance

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 c) Any interest earned and any collection made by the bank for the
depositor- added to the check book balance.
d) Any charge appearing on the bank statement – subtracted from
the checkbook balance
e) NSF – subtracted from the checkbook balance.
Format for bank reconciliation
Bank balance according to bank statements-----------------------------------xxx
Add: additions by depositor not on bank statement-----------------xx
Bank errors--------------------------------------------xx xx
Xxx
Deduct: Deductions by depositor not on bank statements------------xx
Bank errors------------------------------------xx xx
Adjusted balance---------------------------------------------------- xxx
Bank Balance according to depositors’ records-----------------------------xxx
Add: additions by bank not recorded by depositor--------------xx
Depositor errors---------------------------------xx xx
Xxx
Deduct: deductions by bank not recorded by depositor---------- xx
Depositor errors--------------------------------xx xx
Adjusted balance -------------------------------------------------------------xxx
Illustration of bank reconciliation
The bank statement for Hope Company, recorded, indicates a balance of
Br3359.78 as on July 31. The balance in cash in bank in Hope Company’s ledger
as of the same date is Br2, 234.99. The following are reconciling items:
1. Deposit of July 31 not recorded on bank statement Br816.20
2. Check out standing: No 812,Br1061.00;No 878,Br435.39;883,Br48.60
3. Note plus interest of Br8 collected by bank (credit memorandum), Not recorded
on cash receipts journal Br408.00
4. Bank service charges (debit memorandum)not recorded on Cash repayments
journal Br3.00
5. Check No 879 for Br732.26 to Taylor Company on account, Recorded in cash
payments journal as Br723.26
The bank reconciliation based on the bank statements and the reconciling items
is as follows
Hope Company
Bank reconciliation
July 31, 2010
Balance per bank statement----------------------------------------Br3,359.78
Add: deposit of July 31, not recorded by bank-----------------------816.20

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 4,175.98
Deduct outstanding checks:
No 812-------------------------1,061.00
No 878---------------------------435.39
No 883----------------------------48.60 1,544.99
Adjusted Bank balance----------------------------------------- Br2,630.99

Balance per depositors records-------------------------------------Br2,234.99

Add: Note and interest collected by bank-------------------------- 408.00
2,642.99
Deduct: Bank service charges-----------------------3.00
Error in recording check no 879---------9.00 12.00
Adjusted cash book balance---------------------------------------Br2,630.99

The entries for Hope Company, based on the bank reconciliation above are as
follows:
July 31 Cash in bank-----------------------------408.00
Notes receivable---------------------------400.00
Interest income-------------------------------8.00

31 Miscellaneous Expense---------------3.00
Account payable-----------------------9.00
Cash in bank----------------------------12.00
Self-check -1
Instructions: Follow all necessary steps and format to prepare Bank
reconciliation statement and Record all entries.
XYZ Company is closing its books and must prepare bank reconciliation for the
following items:
 Bank statement contains an ending balance of $300,000 on February 28,
2018, whereas the company’s ledger shows an ending balance of $260,900
 Bank statement contains a $100 service charge for operating the account
 Bank statement contains interest income of $20
 XYZ issued checks of $50,000 that have not yet been cleared by the bank
 XYZ deposited $20,000 but this did not appear on the bank statement
 A check for the amount of $470 issued to the office supplier was
misreported in the cash payments journal as $370.
 A note receivable of $9,800 was collected by the bank.
 A check of $520 deposited by the company has been charged back as NSF.
Task 1: prepare bank reconciliation statement
Task2: Record all necessary journal entries

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SELF CHECK - 2
1. The final step in recording deposit and withdrawal is________
A. Adding raw C. Saving the file in the
B. Attaching files software
D. All of the above
2. A document you can issue to your bank, directing it to pay the specified
sum mentioned in digits as well as words to the person whose name is
mentioned on it is known as_____________
A. Bank account C. Credit payment
B. Cheque D. All the above

3. _____________lists the activity in the bank account during the recent

month as well as the balance in the bank account.
A. Income statement C. Cheque account
B. Bank statement D. All of the above
4. __________ is the process of confirming the amounts on the bank
statement are consistent or compatible with the amounts in the company's
Cash account in its general ledger and vice versa.
A. Bank statement C. Income statement
B. Company cash ledger D. Bank reconciliation
5. Which of the following statement is true about bank reconciliation?
A. Bank reconciliation is an account
B. Bank reconciliation is a periodical statement
C. Bank reconciliation is not a part of double entry bookkeeping
D. All except “A”
6. Which of the following is not importance of bank reconciliation?
A. To stop fraud
B. To detect bank error
C. To stay on top of accounts receivable
D. All of the above
7. Cash and checks that have been received and recorded by the company but
have not yet been recorded on the bank statement.
A. Checque outstanding C. Not sufficient fund (NSF)
B. Deposit in transit D. Bank service fees
8. When a customer deposits a check into an account but the account of the
issuer of the check has an insufficient amount to pay the check
A. Checque outstanding C. Not sufficient fund (NSF)
B. Deposit in transit D. Bank service fees

9. The reconciliation of the cash register tape with the cash in the register is an
example of
A. Other controls. D. Segregation of duties.
B. Independent internal verification.
C. Establishment of responsibility.

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 [Link] of the following is not an internal control procedure for cash?
A. Payments should be made with cash.
B. There should be limited access to cash.
C. The amount of cash on hand should be kept to a minimum.
D. Cash should be deposited daily
ACCOUNTING FOR RECEIVABLES
Receivables Defined
Accounts receivable are amounts that customers owe the company for normal credit
purchases. Since accounts receivable are generally collected within two months of
the sale, they are considered a current asset and usually appear on balance sheets
below short-term investments and above inventory.

Notes receivable are amounts owed to the company by customers or others who
have signed formal promissory notes in acknowledgment of their debts. Promissory
notes strengthen a company's legal claim against those who fail to pay as promised.
The maturity date of a note determines whether it is placed with current assets or
long-term assets on the balance sheet. Notes that are due in one year or less are
considered current assets and notes that are due in more than one year are considered
long-term assets.

Accounts receivable and notes receivable that result from company sales are called
trade receivables, but there are other types of receivables as well. For example,
interest revenue from notes or other interest-bearing assets is accrued at the end of
each accounting period and placed in an account named interest receivable. Wage
advances, formal loans to employees, or loans to other companies create other types
of receivables. Receivables of all types are normally reported on the balance sheet
at their net realizable value, which is the amount the company expects to receive in
cash.

Sales of Merchandise on account (sales on credit)

Most transactions involving individuals, businesses, and governments
are not paid for immediately, but are paid over a period of time on a credit
basis. Credit can be defined as providing cash, goods or services in the
present, with payment expected in the future. Credit sales are recorded by
debiting an Accounts Receivable account for a specific customer and
crediting the sales account.

To illustrate, assume that on March 23, 2009, Roba Company sold Br 500
worth of merchandize on account to Hawi Company. On March 26, Hawi
returned Br 200 worth of the merchandize because of damage. The sale

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and the return are recorded in general journal form on the books of Roba
as follows:
2009 March 23. Accounts receivable -Hawi Co ……. 500
Sales ………………….. 500
(Recorded sales on account)
26. Sales return and Allowances …………. 200
Accounts receivable- Hawi Co……. 200
(To record merchandize returned from a customer)
Evaluating Accounts Receivable

Business owners know that some customers who receive credit will never pay their
account balances. These uncollectible accounts are also called bad debts. Companies
use two methods to account for bad debts:

 the direct write-off method and

 the allowance method.

Direct write-off method:

 Bad debts charged directly to expense when debt is considered un-collectable

 It is only acceptable in those cases where bad debts are immaterial in amount.
 direct write-off method is simple
 also called direct charge off method
If a customer named Tola fails to pay a Br225 balance, for example, the company
records the write-off by debiting bad debts expense and crediting accounts
receivable from Tola. The appropriate entry for the direct write-off approach is as
follows:

2-10-210 Uncollectible Accounts Expense 225

Accounts Receivable 225
To record the write off of an
uncollectible account from Jones

Notice that the preceding entry reduces the receivables balance for the item that is
deemed uncollectible. The offsetting debit is to an expense account: Uncollectible
Accounts Expense.

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Allowance Method

 Estimate of doubtful debts made at the end of the period

 An adjusting entry is made at the end of each accounting period.
 Records an estimate of the expense in same period as the income to which it
relates
 Creates an allowance that will be deducted from accounts receivable on the
balance sheet
 Allowance also known as ‘provision’
 Since the specific customer accounts that will become uncollectible are not
yet known when the adjusting entry is made, a contra-asset account named
allowance for bad debts, which is sometimes called allowance for doubtful
accounts, is subtracted from accounts receivable to show the net realizable
value of accounts receivable on the balance sheet.
ACCOUNTING FOR NOTES RECEIVABLES
Definition of Notes Receivable
A promissory note (note receivable) is a written promise to pay specified
amount money either on demand or at a definite future date. Promissory
notes are used in many transactions, including
- paying for products and services
- in the ending and borrowing of money and
- To pay for account receivables
Note contains the following parts:
1. Date – the date of the note
2. Time – the length of time between the date the note is issued and
the (period) date it is due for payment (note’s life span)
3. Payee – the party to whom payment will be made
4. Principal (Face value) - the stated amount of the note
5. Maker – the party promising to make payment,
6. Interest – the charge imposed on the borrower of funds for the use of money
7. Due date – the day the note will be due
Determining the Due date of a Note
The maturity date (due date) of a note is the day the note (principal &
interest) must be paid. When the time of the note is expressed in days, the
maturity date is the specified number of days after the note’s date.
Example: - The Maturity date of a 90 – day note dated July 10 is
computed as follows:
Term of notes ………….. ……… 90
July (days) ……………… 31
Date of note July …. ………10 21
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 Number of days remaining ……... 69
August (days) …………………….. 31
Number of days remaining ………..38
September (days) ……………….. . 30
Maturity date, October ……… 8
The period of a note is sometimes expressed in months or years. When
months are used, the note matures and is payable in the month of its
maturity on the same day of the month as its original date.
Interest Computation
Interest is the cost of borrowing money for the borrower or the profit
from lending money for the lender. To calculate interest, three factors are
needed:
1. Principal of the note – the amount borrowed
2. Rate of interest percent charged on the principal
3. Time of the note – Number of years, months, or days from the date
of issue to the date of maturity.
A note that provides for payment for interest for the period between the
issuance date and the maturity date is called an interest bearing note. If
a note makes no provision for interest, it is said to be non-interesting
bearing note.
The following formula is used to calculate interest on an interest bearing
note:
Interest = Principal X Rate X time
I= P X R X T
To illustrate, assume a note with a principal of Br 1, 400, a rate of 10%
and a time of two years. Interest is computed as follows:
I = P X RX T
= Br1, 400x10%X 2 years
= Br 280
The interest on a Br 1,200, 9% note for three months is calculated as:
I = PXRXT
= Br1, 200 X 9%X3/12
= Br27
When a time of a note is expressed in days, the time factor is stated as a
fraction of 360 days. To illustrate the note that has a principal of Br 700,
a rate of 9%, and a time of 30 days is computed as follows:
I=PXRXT
= Br 700 X 9% X 30/360 = Br 5.25

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Accounting For Notes Receivable: To illustrate the accounting for a note
receivable, assume that Hope initially sold Br10,000 of merchandise on account to
Wisdom. Wisdom later requested more time to pay, and agreed to give a formal
three-month note bearing interest at 12% per year. The entry to record the
conversion of the account receivable to a formal note is as follows:

1/6/2010 Notes Receivable 10,000

Accounts Receivable 10,000
To record conversion of an
account receivable to a note
receivable

The principal and interest of a note are due on its maturity date. The maker of the note usually
honors the note and pays it in full.

 The note that is paid in full at its maturity date is called honored note.
 When the note matures, Hope's entry to record collection of the maturity value would appear as
follows:

31/8/2010 Cash 10,300

Interest Income 300
Notes Receivable 10,000
To record collection of note receivable
plus accrued interest of Br300
(Br10,000 X 12% X 90/360)

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