Petty cash refers to small amounts of cash kept on hand in a business. (The term "petty" comes from "petite," or "small.") There are two reasons to keep petty cash:
- To make change for customers or patients
- To pay for small purchases which require cash, such as food for the office lunch or coffee supplies, or for parking. Most retail businesses keep a cash drawer as do health care practices.
Petty cash works on the imprest system, in which there is an initial amount of money put into an account, which is drawn upon for a specific purpose (in this case, petty cash). When the account goes below a certain specified amount, the system is replenished. For a petty cash system, the initial amount of money comes from the business checking account.
Every purchase using petty cash must be documented in the same way as other business income and expenses. Using a petty cash log or petty cash slips will help capture these expenses so they can be used to offset income for business tax purposes.
Start by deciding how much money you will need each day, both to make change for customers and to make small cash payments.
Keep as much cash as you need in your cash drawer, but not too much, so it isn't a temptation for employees or robbers. To determine a maximum amount for petty cash, keep records on expenditures over a period of time, using an average amount for each week, for example.
As you start out, keep track of how much is in the petty cash box or drawer at the beginning of each day. As you make each payment, you will need petty cash slips or a transaction list. For each transaction, record the date, the amount, and what it was for. Be as specific as possible so there is no doubt that the transaction was business-related. You don't need to keep track of change each day. But at the end of each day, record the amount in the petty cash drawer. The difference should tally with cash payments made by customers and with the total of petty cash expenses paid from the drawer.
When the petty cash drawer gets below a pre-set amount that you determine, add to the drawer by writing a check to "Petty Cash" and cashing that check.
The most important part of a petty cash system is the documentation of each transaction. Documenting transactions is the way a business documents business expenses for tax purposes. By keeping track of all petty cash transactions - no matter how petty- you have records to back up deductions for those small business expenses. The more documented expenses, the higher your deductions, and the lower your business tax bill.
For more information, read "How to Set Up and Maintain a Petty Cash Account."
Also Known As: Cash on Hand
Examples: The petty cash drawer was used to make change and pay for incidental business expenses.