Petty cash is a small amount of cash that is kept on the company premises to pay for minor cash needs. Examples of these payments are office supplies, cards, flowers, and so forth. Petty cash is stored in a petty cash drawer or box near where it is most needed. There may be several petty cash locations in a larger business, probably one per building or even one per department. A separate accounting system is used to track petty cash transactions.
The Petty Cash System
To set up a petty cash fund, the cashier creates a check in the amount of the funding assigned to a particular petty cash fund (usually a few hundred dollars). Alternatively, the cashier could simply count out the cash for the petty cash fund, if there are enough bills and coins on the premises. The initial petty cash journal entry is a debit to the petty cash account and a credit to the cash account.
The petty cash custodian then disburses petty cash from the fund in exchange for receipts related to whatever the expenditure may be. There is no journal entry at this point; instead, the cash balance in the petty cash fund continues to decline, while the number of receipts continues to increase. The total of the receipts and remaining cash should equal the initial amount of petty cash funding at all times. However, recordation errors and theft may result in a variance from the initial funding amount.
When the cash balance in the petty cash fund drops to a sufficiently minimal level, the petty cash custodian applies for more cash from the cashier. This takes the form of a summarization of all the receipts that the custodian has accumulated. The cashier creates a new check in the amount of the receipts, and swaps the check for the receipts. The petty cash journal entry is a debit to the petty cash account and a credit to the cash account.
The petty cash custodian refills the petty cash drawer or box, which should now contain the original amount of cash that was designated for the fund. The cashier creates a journal entry to record the petty cash receipts. This is a credit to the petty cash account, and probably debits to several different expense accounts, such as the office supplies account (depending upon what was purchased with the cash). The balance in the petty cash account should now be the same as the amount at which it started.
In reality, the balance in the petty cash account is higher than the amount of cash actually in the petty cash box, since the cash in the box is continually being paid out. However, the difference is so minor that it is completely immaterial to the results in the financial statements. Thus, the difference is only reconciled when the petty cash box must be replenished.
Example of Petty Cash Accounting
A company sets up a petty cash fund and initially funds it with $300. The entry is:
The petty cash custodian lets the cash balance in the petty cash box decline to $20 before applying for replenishment. The cashier issues a replenishment check for $280, The entry is:
The cashier records the expenses associated with the petty cash receipts that were submitted. The entry is:
The balance in the petty cash account is now $300, which is where it was originally authorized to be.