A cash equivalent is a short term, highly liquid investment that can be turned into a known amount of cash with an insignificant risk of a change in value. FRS 102 paragraph 7.2 says an investment normally qualifies only if it has a maturity of, say, three months or less from the date it was acquired. Instant access deposits are cash; fixed deposits and notice accounts qualify only if they meet the same tests, and shares and most investment funds do not.
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What is the difference between cash and a cash equivalent?
The FRS 102 glossary defines cash as cash on hand and demand deposits. That covers notes and coins, current accounts and any account the business can draw on immediately without notice or penalty. These are cash, not cash equivalents, so there is no maturity test to apply to them.
Cash equivalents are a second category: short term, highly liquid investments that are readily convertible to known amounts of cash and subject to an insignificant risk of changes in value. IAS 7 paragraph 7, which FRS 102 paragraph 10.6 allows preparers to consider where FRS 102 is brief, adds the purpose behind the definition: cash equivalents are held to meet short term cash commitments rather than for investment or other purposes. That purpose test is useful when a business has surplus funds placed in several different products and has to decide which ones belong in the cash flow statement total.
How does the three month guide work?
The guide in paragraph 7.2 is a maturity of, say, three months or less from the date of acquisition. Two points follow from the wording.
- It is measured from acquisition, not from the year end. A six month deposit placed on 1 January does not become a cash equivalent at a 31 March year end because only three months remain. The IFRS Interpretations Committee considered a request in May 2013 to base classification on the remaining period at the reporting date and declined, noting that the focus on maturity from acquisition promotes consistency between entities.
- It is a guide, not a bright line. The words “normally” and “say” mean the underlying tests still decide the answer: is the amount of cash known, and is the risk of a change in value insignificant? A three month deposit that can only be broken early at a large cost is weaker than one with free early access.
Paragraph 7.2 describes cash equivalents as investments. Rolling a three month deposit over each quarter does not change that: each new deposit is assessed from the date it is placed.
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Do notice accounts and fixed term deposits count?
Neither FRS 102 nor IAS 7 deals with notice accounts by name, so the definition has to be applied to the terms of each account. The questions to ask are practical.
- How long before the money can be had? An account requiring 32 or 95 days’ notice is effectively a deposit with a maturity equal to the notice period once notice is given. A notice period within the three month guide is consistent with paragraph 7.2; a six month notice account is not.
- Is the amount known? If early withdrawal is possible only by forfeiting interest, the capital is still known and the effect is usually small. If early access reduces the capital, or the penalty is more than insignificant, the amount is not known in advance.
- Why is it held? Money parked in a 95 day account as a rainy day buffer for the payroll fits the IAS 7 purpose. A one year bond held for its higher rate is an investment.
Fixed term deposits are treated the same way. A deposit of three months or less from placement normally qualifies. A longer deposit is a financial asset outside cash equivalents and is usually presented as a current asset investment or debtor, with the cash placed and returned shown as an investing cash flow under paragraph 7.5. The measurement of those deposits follows Section 11; see basic financial instruments under FRS 102.
What about money market funds, shares and other investments?
IAS 7 paragraph 7 says equity investments are excluded from cash equivalents unless they are cash equivalents in substance, for example preference shares acquired within a short period of their maturity and with a specified redemption date. Listed shares can be sold quickly, but their value moves, so they fail the insignificant risk test.
Investment funds were considered by the IFRS Interpretations Committee in July 2009. It said the amount of cash to be received must be known at the time of the initial investment, so units do not qualify simply because they can be redeemed at any time at the then market price. Each fund has to be assessed on its terms: a fund whose redemption value moves with market prices is unlikely to qualify, whatever its liquidity.
Can a bank overdraft be part of cash and cash equivalents?
Yes, in limited cases. Paragraph 7.2 says overdrafts are normally financing activities similar to borrowings, but where they are repayable on demand and form an integral part of the entity’s cash management they are a component of cash and cash equivalents. IAS 7 paragraph 8 adds that the bank balance in such arrangements often fluctuates between positive and overdrawn. In June 2018 the IFRS Interpretations Committee said short term loans with a 14 day notice period, whose balance did not often swing between negative and positive, were financing and not part of cash and cash equivalents. More detail is in overdrafts in the cash flow statement.
Is restricted cash still cash?
Usually. In March 2022 the IFRS Interpretations Committee considered a demand deposit that a company had agreed with a third party to keep at a set level and use only for specified purposes. Because the company could still withdraw the money on demand, the restriction did not change the nature of the deposit and it remained cash. FRS 102 paragraph 7.21 then requires disclosure, with a commentary by management, of significant cash and cash equivalent balances that are not available for use, for example because of exchange controls or legal restrictions.
Restrictions also affect presentation in the balance sheet. The FRS 102 glossary treats cash or cash equivalents restricted from being exchanged or used to settle a liability for at least 12 months after the reporting period as non current assets.
How do cash equivalents appear in the balance sheet and notes?
The company law balance sheet heading is “Cash at bank and in hand”, which the FRS 102 table of company law terms equates to cash. Cash equivalents may therefore sit partly in cash and partly in current asset investments. Paragraph 7.20 requires the components of cash and cash equivalents to be shown, with a reconciliation to the balance sheet unless the amounts are identical. IAS 7 paragraph 46 also expects the policy for deciding what is a cash equivalent to be disclosed, which is good practice under FRS 102 where judgement has been used on notice accounts or funds.
Moving money between a current account and a qualifying deposit is not a cash flow at all: IAS 7 paragraph 9 says such movements are part of cash management. Small entities applying Section 1A are not required to prepare a statement of cash flows (paragraph 7.1B), although the classification still affects the notes; see cash flow statements for small companies.
What does this look like in practice?
Illustration only. A company has the following at its 31 March year end.
| Item | Terms | Classification |
|---|---|---|
| Business current account | Instant access | Cash |
| Instant access savings account | No notice, no penalty | Cash |
| 32 day notice account | Held for working capital | Normally a cash equivalent |
| Three month fixed deposit | Placed 15 February | Normally a cash equivalent |
| Six month fixed deposit | Placed 1 January, two months left | Not a cash equivalent; investing flow |
| Shares in a listed company | Can be sold at any time | Not a cash equivalent |
What mistakes come up most often?
- Treating any deposit that can be accessed within a year as a cash equivalent.
- Testing maturity from the reporting date instead of from the date of placement.
- Including investment funds or shares because they are easy to sell.
- Netting every overdraft into cash without checking whether it is repayable on demand and fluctuates.
- Leaving out the reconciliation in paragraph 7.20 when the cash flow total differs from “Cash at bank and in hand”.
- Ignoring the paragraph 7.21 disclosure for restricted balances, such as deposits held under a contract.
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Sources
- Financial Reporting Council: FRS 102 September 2024 tmKYWO6
- IFRS Foundation: Ias7
- legislation.gov.uk: SI 2008/410, schedule 1
Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 24 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.