The Importance of Petty Cash for a Small Business

Managing and Keeping Account of Petty Cash

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Petty cash, also known as cash on hand, 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 healthcare 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.

In businesses that have frequent need for petty cash, it's often set up in the front office with a petty cash drawer or box, or in a retail location using a cash register. (Yes, some places still use a cash register.)

Because the cash economy is getting smaller, and people are using debit and credit cards more for small purchases, the use of a petty cash system (with a "cash drawer") has diminished. But it's still essential for any business to make sure you account for all small purchases so that you can deduct them as business expenses. 

How a Petty Cash System Works

To set up a petty cash system with specific, 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.

Setting Up a Petty Cash Account

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. You will need those records for tax purposes too. 

Keeping Track of Transactions

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.

Petty Cash and Taxes

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.