Demand deposits and Cash and cash equivalents

Demand deposits and Cash and cash equivalents Demand deposits and Cash and cash equivalents – Demand deposits are not defined in IFRS. However, in order to qualify as cash, the related balance needs to have the same liquidity as cash itself, and so funds on ‘demand deposit’ need to be capable of being withdrawn at any time without penalty.

In general, deposits which can be withdrawn without penalty within 24 hours, or one working day, are regarded as being demand deposits. These include amounts deposited at financial institutions (such as funds in a bank current account), and may extend to cover deposits at non-financial institutions such as legal advisers, if funds are held for client in separate and designated accounts that can be called upon by the client at any time.

If a deposit does not qualify to be regarded as cash, it may qualify to be classified as a cash equivalent.

Questions arise about whether investments that can be withdrawn on demand could qualify to be regarded as cash equivalents.

This is possible, but only in very limited circumstances. This is because, in addition to the existence of the demand feature, all of the other requirements of IAS 7 need to be met.

An interest bearing deposit at a financial institution might result in the amount of cash that would be received being known, and there might be an insignificant risk of changes in value (in particular in the current low interest rate environment), even if there is an early withdrawal penalty. Demand deposits and Cash and cash equivalents

However, it is also necessary for it to be demonstrated that the investment is being held for the purpose of meeting short-term cash commitments rather than for investment or other purposes (IAS 7 7). It may be difficult to reconcile this last requirement to the characteristics of the investment, particularly as its maturity (excluding the demand feature) increases.

Short term maturity Demand deposits and Cash and cash equivalents
Although the reference to three months in IAS 7 7 might not be viewed as establishing a ‘bright line’ threshold, it is a benchmark that is widely used in practice. One point which is frequently overlooked is that the three month period to maturity is based on the date on which an entity acquires an asset. Demand deposits and Cash and cash equivalents

Consequently, a one year fixed term deposit held by an entity does not become a cash equivalent when the period to maturity has reached three months.

Food for thought

The reference in IAS 7 to three months is often interpreted as meaning that this time period is by itself sufficient to reach a conclusion that an investment would not be subject to a more than insignificant risk of changes in value.

However, this is not an automatic qualification, and it is still necessary to consider other attributes of short term investments. It is possible that an entity would be able to invest funds on a short term basis at a high rate of return that would put these funds at a more than insignificant risk of changes in value (for example, investments with low credit ratings such as certain asset backed securities). In these cases, the investments would not be regarded as being cash equivalents because they are subject to a more than insignificant change in value.

Investments in equity instruments Demand deposits and Cash and cash equivalents
In almost all cases, investments in equity instruments are excluded from being classified as cash and cash equivalents, because they typically have no maturity and are subject to significant potential changes in value. However, it is possible that an instrument such as a redeemable preference share, which is purchased with a short period remaining to its maturity date, will meet the definition of a cash equivalent. Demand deposits and Chief Operating Decision Maker Chief Operating Decision Maker Chief Operating Decision Maker Chief Operating Decision Maker Cash and cash equivalents

Changes in liquidity and risk Demand deposits and Cash and cash equivalents
The definition of cash equivalents makes reference to them being both highly liquid and subject to an insignificant risk of changes in value. IAS 7 does not include any specific requirement to revisit either of these criteria after the initial recognition of a cash equivalent. Demand deposits and Cash and cash equivalents

In general, amounts that initially meet the definition of cash equivalents would not be expected to be subject to significant risk of adverse changes in liquidity and changes in value. However, it is possible that such changes could take place. For example, a short-term maturity corporate (or government) bond that would otherwise meet the definition of a cash equivalent might be subject to a sudden adverse change in the issuer’s credit status. Demand deposits and Cash and cash equivalents

Food for thought

This represents a less obvious feature of cash equivalents which is easily missed. At each reporting date, entities need to consider whether there are any indicators that items previously classified as cash equivalents now fail to meet the classification criteria.

In recent years, a number of governments and financial institutions have seen their credit status decline dramatically within a very short period.

Cryptocurrencies Demand deposits and Cash and cash equivalents
IFRS does not contain specific accounting requirements for cryptocurrencies. However, at its June 2019 meeting, the IFRS Interpretations Committee discussed how existing IFRS Standards apply to holdings of cryptocurrencies and issued an Agenda Decision in which, among other things, it was concluded that a cryptocurrency is not cash.

For the purposes of its discussion, the Interpretations Committee considered cryptocurrencies with the following characteristics: De mand deposits and Cash and cash equivalents

  • A cryptocurrency is a digital or virtual currency that is recorded on a distributed ledger and uses cryptography for security. Demand deposits and Cash and cash equivalents
  • A cryptocurrency is not issued by a jurisdictional authority or other party. Demand deposits and Cash and cash equivalents
  • A holding of a cryptocurrency does not give rise to a contract between the holder and another party. Demand deposits and Cash and cash equivalents

As part of its analysis, the Interpretations Committee considered whether a cryptocurrency is cash. It noted that IAS 32 AG3 states that:

‘Currency (cash) is a financial asset because it represents the medium of exchange and is therefore the basis on which all transactions are measured and recognised in financial statements. A deposit of cash with a bank or similar financial institution is a financial asset because it represents the contractual right of the depositor to obtain cash from the institution or to draw a cheque or similar instrument against the balance in favour of a creditor in payment of a financial liability.’ Demand deposits and Cash and cash equivalents

The description of cash in IAS 32 AG3 implies that cash is expected to be used as a medium of exchange (ie used in exchange for goods or services) an d as the monetary unit in pricing goods and services to such an extent that it would be the basis on which all transaction are measured and recognised in financial statements. Demand deposits and Cash and cash equivalents

Although some cryptocurrencies can be used in exchange for particular goods or services, the Interpretations Committee noted that it was not aware of any cryptocurrency that is used as a medium of exchange and as the monetary unit in pricing goods or services to such an extent that it would be the basis on which all transactions are measured and recognised in financial statements. Consequently, the Interpretations Committee concluded that a holding of cryptocurrency is not cash because cryptocurrencies do not currently have the characteristics of cash.

Further explanations from the other side of the balance sheet are here in: Bank overdrafts and cash and cash equivalents

Demand deposits and Cash and cash equivalents

Annualreporting.info provides financial reporting narratives using IFRS keywords and terminology for free to students and others interested in financial reporting. The information provided on this website is for general information and educational purposes only and should not be used as a substitute for professional advice. Use at your own risk. Annualreporting.info is an independent website and it is not affiliated with, endorsed by, or in any other way associated with the IFRS Foundation. For official information concerning IFRS Standards, visit IFRS.org.

Leave a comment