Companies often operate from a physical location, which includes land and a building. In some cases, companies may also have manufacturing plants or factories. Mostly, companies own these locations. However, some may also rent or lease property from other parties, known as landlords. The company becomes a tenant in this transaction.
When leasing a property, companies must meet several conditions specified in the lease agreement by the landlord. This agreement may also require a security deposit which is common in many areas. The accounting for this deposit may involve several considerations. However, it is crucial to know what it includes.
What is a Security Deposit?
A security deposit is a monetary amount paid to a landlord by a tenant, which may include a company or individual. This deposit occurs before the lease agreement between both parties commences. The security deposit assures the landlord of the tenant’s commitment to lease the property. On top of that, the monetary amount also serves as security against any damage to the property during occupancy.
In most cases, tenants pay a security deposit before moving into a property. This deposit is a part of the lease agreement between both parties. The landlord holds the security deposit until the tenant moves out of the property. After that, the landlord repays this amount to the tenant. However, they may not do so or deduct some amount from the deposit if the tenant has damaged the property.
What is the accounting for Security Deposits?
The accounting for security deposits is similar to prepayments or advances. When a tenant signs a lease agreement, they pay the supplier this deposit. At that time, the security deposit is an asset for the tenant that they can keep on the balance sheet. Usually, tenants classify this amount as current assets. However, if the lease agreement goes beyond 12 months, it will fall under non-current assets.
Once the lease agreement period ends, the tenant may receive a full refund from the landlord. At this point, the tenant reclassifies the asset type in the balance sheet. However, the accounting treatment may be more complex if the full refund does not occur. In that case, the tenant records any amount withheld by the landlord as an expense.
What is the journal entry for Security Deposit?
When tenants pay a landlord the security deposit, they must record it as a current asset. At that time, the journal entry is as follows.
| Dr | Security deposit |
| Cr | Cash or bank |
When the landlord refunds the security deposit, the tenant must reverse the above entry as below.
| Dr | Cash or bank |
| Cr | Security deposit |
If the landlord doesn’t refund the security deposit, the tenant must write off the amount. The journal entry will be as below.
| Dr | Property expense |
| Cr | Security deposit |
Example
Blue Co. leases a property for which it pays $10,000 cash in a security deposit. The company records this transaction as follows.
| Dr | Cash | $10,000 |
| Cr | Security deposit | $10,000 |
After a year, Blue Co. leaves the property. However, the landlord withholds $2,000 from the security deposit for damages. Blue Co. records the transaction as below.
| Dr | Property expense | $2,000 |
| Dr | Cash | $8,000 |
| Cr | Security deposit | $10,000 |
Conclusion
Security deposit is the amount paid to a landlord when a lease agreement commences. This deposit assures the landlord of the tenant’s commitment to move into the property. Similarly, it serves as security for any damages caused to the property when the tenant leaves. The accounting for security deposits may involve various considerations, as listed above.
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