Certificates of Deposit: Certificates of deposit (CDs) are investment securities issued by banks. They are used as short-term investments because they pay higher interest than bank checking or savings accounts. CDs are considered to be very safe investments because US banks rarely fail to live up to their obligations.

Assume that on June 1 a company invests $5000 in a 60-day, 5% CD. Show the effects of the investment on the company's resources and sources of resources.
 

Total
Resources

=

Sources of
Borrowed
Resources

+

Sources of
Owner Invested
Resources

+

Sources of
Management Generated
Resources

Assets

=

Liabilities

+

Stockholders' Equity

+ $5,000
temporary investments

- $5,000
cash

 

 

 

 

 

 

The purchase of the CD results in the change of one resource into another. Total resources and total sources of resources do not change until the company earns interest by holding the CD.

Remembering that assets increase with debits and that debits equal credits, prepare the journal entry to record the $5,000 investment in the CD.
 

Date

Description

Post.
Ref.

Debits

Credits

June 1

Temporary Investments

 

5,000

 

 

    Cash

 

 

5,000

 

CD purchase

 

 

 

In the above entry, the CD was recorded in the temporary investments asset account, although some companies prefer a short-term investments account or even a certificate of deposits account. Regardless of the name for the account, it was debited for the investment because it is an asset and assets increase with debits. The credit required because debits must equal credits was to the cash asset account. If you remember that assets decrease with credits, you support this credit because cash did decrease when the CD was purchased.

After the company holds the CD for 60 days until it matures, it may be converted back into cash or it may be converted into another CD. If the company converts the CD into cash, the company will receive the $5,000 principal plus interest $41.10 ($5,000 x .05 x 60/365). Show the effects of the CD conversion into cash on the company's resources and sources of resources.
 

Total
Resources

=

Sources of
Borrowed
Resources

+

Sources of
Owner Invested
Resources

+

Sources of
Management Generated
Resources

Assets

=

Liabilities

+

Stockholders' Equity

+ $5,041.10
cash

- $5,000
temporary investments

=

 

 

 

 

+ $41.10
interest revenue 

The conversion of the CD into cash results in an increase in the company's resources and sources of resources for the interest earned by holding the CD for 60 days. The $41.10 increase in resources occurred because management provided $41.10 services to the bank from whom they purchased the CD. Management allowed the bank to use $5,000 of the company's cash for 60 days.

Remembering that assets increase with debits and that debits equal credits, prepare the journal entry to record the conversion of the CD into cash.
 

Date

Description

Post.
Ref.

Debits

Credits

July 30

Cash

 

5,041.10

 

 

    Temporary Investments

 

 

5,000.00

 

    Interest Revenue

 

 

41.10

 

CD conversion

 

 

 

Cash was debited in the above entry because cash increased, cash is an asset, and assets increase with debits. One of the credits required because debits must equal credits was to the temporary investments asset account for the elimination of the $5,000 CD. If you remember that assets decrease with credits, you support this credit because temporary investments did decrease when the CD was converted. The $41.10 credit to interest revenue shows that stockholders' equity increased through management operations. Remember the $41.10 increase in resources ($5,041.10 - $5,000) was due to management investing in the CD and holding it until it matured. Since owners have a right to resources generated by management, stockholders' equity should increase by the $41.10 increase in the company's resources. If you remember that stockholders' equity increases with credits, you support this credit to interest revenue.
 

Treasury Bills: Treasury bills are investment securities issued by the US Treasury. Similar to certificates of deposit, they are used as short-term investments because they pay higher interest than bank checking or savings accounts and they are considered to be very safe investments. The accounting for treasury bills is similar to the accounting for certificates of deposit discussed in the previous section.

 

 

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