FAR · Select balance sheet accounts · 6 practice questions
Cash Classification: Bank Overdrafts, Postdated and NSF Checks
Postdated and NSF customer checks are receivables, and bank overdrafts are current liabilities unless the same-bank setoff exception applies. Below, sort items into cash and cash equivalents, receivables, other assets, or current liabilities.
Try one first
| Instrument | Amount |
|---|---|
| Currency and coins on hand | $7,000 |
| Demand checking account balance | $86,000 |
| Petty cash fund | $2,000 |
| Customer postdated check dated January 5, Year 2, received on December 28, Year 1 | $4,500 |
| 90-day Treasury bill purchased on November 15, Year 1 | $30,000 |
| 6-month certificate of deposit purchased on December 1, Year 1 | $25,000 |
Hint
Separate true cash from items that only seem cash-like, and focus on original maturity rather than time remaining until maturity.
Answer C. Cash includes currency, demand deposits, and petty cash (7,000 + 86,000 + 2,000 = 95,000). Cash equivalents are short-term, highly liquid investments with an original maturity of three months or less when acquired; the 90-day Treasury bill purchased Nov. 15 qualifies (+30,000). The postdated check is not cash at year-end and the 6-month CD does not qualify, so total cash and cash equivalents = $125,000.
Why not A: This total incorrectly includes the postdated check (adds $4,500). A postdated check is not available for immediate deposit at year-end and is treated as a receivable, not cash.
Why not B: This total incorrectly treats the 6-month certificate of deposit as a cash equivalent. Because its original maturity when purchased exceeded three months, it does not qualify as a cash equivalent under U.S. GAAP.
Why not D: This total includes both the postdated check and the 6-month CD. It reflects overinclusion of items that are not immediately available as cash or that have original maturities longer than three months.
Sort it
Include unrestricted cash and qualifying equivalents; subtract overdrafts only with same-bank positive balances, legal setoff rights, and net-settlement intent.
Use when a customer still owes payment because its check is postdated or returned NSF.
Use for legally restricted cash and investments that fail the cash-equivalent test.
Use for bank overdrafts that fail any part of the same-bank setoff test.
| Item | Goes to |
|---|---|
| Valid, unrestricted customer check dated by year-end but not yet deposited. | Cash and cash equivalentsWaiting to deposit a currently payable check does not turn it into a receivable. |
| Customer check received before year-end but dated January 4 of the next year. | ReceivablesReceipt is not enough. The check is dated after the balance sheet date. |
| Payroll overdraft at the deposit bank, with intent to settle net but no legal right of setoff. | Current liabilitiesThe same bank and management's intent cannot replace a legally enforceable setoff right. |
| Unrestricted 90-day Treasury bill purchased at issuance. | Cash and cash equivalentsIts maturity at acquisition is within three months, so it qualifies as a cash equivalent. |
| Compensating balance legally restricted as collateral for a long-term loan. | Other assetsPresent the restricted balance separately, outside the unrestricted cash and cash equivalents caption. |
| Customer check returned NSF at year-end and collected early in the next year. | ReceivablesThe check was unpaid at year-end. Later collection does not make it year-end cash. |
| Overdraft with positive same-bank deposits, a legally enforceable setoff right, and intent to settle net. | Cash and cash equivalentsSubtract the overdraft from the positive balance; it is not an additional cash asset. |
| CD purchased as a six-month investment that matures the day after year-end. | Other assetsIts maturity at acquisition exceeded three months. Being close to maturity does not change its classification. |
| Overdraft at Bank B when the company's positive deposits are at Bank A. | Current liabilitiesPositive balances at a different bank cannot offset this overdraft. |
| Unrestricted money market fund with stable NAV and same-day cash redemption without restrictions. | Cash and cash equivalentsIts liquidity and stable value qualify it as a cash equivalent. |
| Valid, unrestricted customer receipts deposited before year-end but still in transit. | Cash and cash equivalentsThe bank's processing delay does not remove valid receipts from the company's cash. |
| Same-bank overdraft with positive deposits and legal setoff rights, but no intent to settle net. | Current liabilitiesA legal right alone is insufficient. Net presentation also requires intent to settle net. |
Key points
- Remember: A valid check waiting for deposit is cash; a received postdated check is still a receivable.
- Correct invalid checks already included in the cash ledger before adding other qualifying items.
- Later collection of an NSF check does not make it cash at the earlier year-end.
- Screen out restricted balances before testing investments for cash-equivalent status.
How the exam traps you
- Leaving a postdated or NSF customer check in cash because it was received or deposited. Remove it from cash and restore the customer receivable at year-end.
- Netting an overdraft just because another account has a positive balance. Require the same bank, a legally enforceable right of setoff, and intent to settle net.
- Using time remaining at year-end to classify a CD as a cash equivalent. Measure maturity from acquisition; a six-month CD does not become a cash equivalent as maturity approaches.
Question 2
Hint
Separate items that are truly available as current cash or cash equivalents from items that are merely cash-related, and do not forget the same-bank right-of-offset exception.
Answer A. The caption asked for is the current-asset line "Cash and cash equivalents," not total cash plus separately classified restricted cash. Because the overdraft and positive account are at the same bank and Lark has both a legally enforceable right of offset and intent to offset, net presentation is appropriate. The money market fund qualifies as a cash equivalent, and only the currency in petty cash is cash; the IOU, unreimbursed receipts, and postdated check are not. The compensating balance tied to a long-term borrowing arrangement should be presented outside the current cash and cash equivalents caption.
Why not B: This is tempting because candidates often learn the general rule that bank overdrafts are current liabilities. It is wrong here because the facts add the same-bank offset exception: Lark has a legally enforceable right of offset and intends to offset, so the overdraft should be netted against the positive Metro Bank balance rather than presented separately as a liability.
Why not C: This is tempting because restricted cash is still cash in a broad sense and often requires disclosure. However, the question narrowly asks for the current-asset caption "Cash and cash equivalents." A compensating balance restricted under a long-term debt agreement is not part of that current caption and should be shown separately, typically as noncurrent.
Why not D: This is tempting because the company physically holds the check at year-end, so it can feel cash-like. It is wrong because a postdated check is not currently payable on Dec. 31 and is treated as a receivable, not cash, until its stated date.
Question 3
Hint
Separate true cash items from investments, then ask whether any investment had an original maturity of three months or less when acquired.
Answer A. Cash includes the demand deposit ($180,000) and petty cash ($3,000). The Treasury bill purchased December 15 has an original maturity of three months (matures March 15) and qualifies as a cash equivalent ($40,000). The NSF check is not cash, and the 6-month CD purchased July 1 did not have an original maturity of three months or less, so it is not a cash equivalent.
Why not B: This adds the $5,000 NSF check to cash. A returned (NSF) check is not cash, it becomes a receivable until collected, so it should be excluded from cash.
Why not C: This treats the 6-month certificate of deposit as a cash equivalent because it's close to maturity. Under U.S. GAAP, cash-equivalent status is based on original maturity when purchased (six months here), so the CD does not qualify.
Why not D: This includes both the NSF check and the 6-month CD as cash equivalents. Both inclusions are incorrect, the NSF check is not cash, and the CD's original maturity exceeded three months.
Question 4
Hint
Remember (1) cash equivalents are based on original maturity at purchase (≤ 3 months), (2) contractually restricted cash is presented separately, and (3) an overdraft can be offset only when a legally enforceable right of setoff exists and net settlement is intended.
Answer B. Cash equivalents are highly liquid investments with an original maturity of three months or less from the date of acquisition; the T‑bill (item 4) and the money market mutual fund (item 2) meet that criterion, and unrestricted checking (item 1) is cash. The CD (item 3) had an original maturity of six months and therefore is not a cash equivalent despite fewer than three months remaining. Contractually restricted cash (item 5) should be presented separately because it must be maintained for 18 months. The $15,000 overdraft (item 6) may be netted against the deposit at Bank A because a legally enforceable right of offset exists and Meridian intends to settle on a net basis.
Why not A: Tempting because overdrafts are often presented as liabilities, but the stem explicitly states there is a legally enforceable right of offset with positive deposits at the same bank and Meridian intends to settle net. Under those facts the overdraft can be offset and included in the cash presentation, so excluding it is incorrect.
Why not C: Tempting because the CD will mature soon, but cash equivalents are determined by original maturity at purchase (≤ 3 months), not remaining life. The CD's original six‑month term disqualifies it as a cash equivalent.
Why not D: Tempting because restricted amounts are cash in a bank, but GAAP requires material contractually restricted cash to be reported separately (as restricted cash, current or noncurrent as appropriate) rather than included in cash and cash equivalents.
Question 5
Hint
Focus on two issues: original maturity when the investment was acquired, and whether a returned customer check is still cash at year-end.
Answer A. Cash and cash equivalents include cash plus highly liquid investments with an original maturity of three months or less when acquired. Include the checking account ($85,000) and the 90-day Treasury bill purchased December 15 ($20,000), totaling $105,000. The 6-month CD had an original six-month maturity, so it is not a cash equivalent, and the returned NSF check is no longer cash and should be reclassified as a receivable.
Why not B: This reflects the common error of treating the returned NSF check ($4,000) as still cash. Once a customer check is returned NSF, it ceases to be cash and should be recorded as a receivable, so this answer overstates cash.
Why not C: This choice incorrectly treats the 6-month certificate of deposit as a cash equivalent by focusing on its remaining time to maturity at year-end. Cash equivalents are judged by original maturity at acquisition; a six-month CD purchased October 1 does not qualify.
Why not D: This combines the two common mistakes: including the 6-month CD as a cash equivalent and treating the NSF check as cash. Both inclusions are incorrect under the original-maturity and cash-definition rules.
Question 6
Hint
Separate the analysis into four buckets: checks included in the bank balance, short-term investments, legally restricted deposits, and overdrafts. For investments, focus on original maturity rather than time remaining at year-end.
Answer D. Cash and cash equivalents = demand deposit after removing the postdated and NSF checks plus the unrestricted money market fund: $1,420,000 - $52,000 - $31,000 + $180,000 = $1,517,000. The Treasury bill is not a cash equivalent because its original maturity when purchased was 100 days, which exceeds three months. The $90,000 compensating balance is legally restricted for a long-term loan and should be separately presented, and the $44,000 overdraft is reported as a current liability because Holt lacks a legal right of offset.
Why not A: Tempting because compensating balances are cash on deposit, but a compensating balance that is legally restricted for a long-term borrowing (loan matures in 20X8) is not part of unrestricted current cash and should be presented separately.
Why not B: Tempting because the T-bill matures within three months after year-end, but under U.S. GAAP cash-equivalent status depends on the original maturity at purchase. The T-bill was purchased with a 100-day original maturity, so it is excluded from cash equivalents.
Why not C: Tempting because the overdraft is at the same bank and candidates may assume automatic offset. Netting requires a legal right of offset; since Holt has none, the overdraft must be reported as a current liability rather than netted against cash.
Common questions
Are postdated checks and NSF checks cash under GAAP?
No. At year-end, remove them from cash and report the customer receivable; later collection does not change that year-end classification.
Can you offset a bank overdraft against cash under GAAP?
Only against positive balances at the same bank when a legally enforceable right of setoff and intent to settle net exist. Otherwise, present the overdraft as a current liability.
Are undeposited checks and deposits in transit included in cash?
Yes, if the receipts are valid, currently payable, and unrestricted. A deposit in transit remains cash even though the bank has not yet recorded it.
Practice FAR like the real exam
The free ChatCPA simulator: real exam layout, timed testlets, starting with a question on this topic. No account needed to start.
Open the free simulator →More on Cash and cash equivalents
Questions from the ChatCPA bank of 17,658 CPA exam questions, each with a written reason for every wrong answer. ChatCPA is built by Nicholas Miller, CPA (Oregon #14907). How these pages are made. Spot an error? Tell us.