Setting up and Understanding Petty Cash Guidelines

Did you know that, according to a study by Argos Retail Group, businesses lose around 8.78 billion AED annually due to petty cash-related errors and fraud? 

Petty cash might seem minor, but poor management of these funds can cause serious financial leaks. U.S. businesses report annual losses of $2.8 billion from expense report fraud, with mismanaged spending cutting into up to 5% of their yearly revenue.

In today's fast-paced business environment, effective petty cash management is no longer an option—it's necessary to maintain financial control and prevent fraud.

This guide will explain everything about petty cash, why businesses need it, the difference between petty cash and cash on hand, the importance of setting up a well-structured petty cash system, common challenges faced by businesses, and how digital tools can transform the way you handle these day-to-day expenses.

What is Petty Cash?

In today’s increasingly digital world, non-cash transactions are becoming the norm. Yet, many businesses still find keeping a small cash reserve to manage minor and non-recurring expenses helpful. This small, readily available sum is known as petty cash.

Each department of an organisation typically maintains petty cash to cover incidental costs quickly and without hassle. These could include small purchases like office supplies, minor employee reimbursements, or emergency expenditures. 

Petty cash allows businesses to settle low-value, one-time expenses without the need for lengthy approval processes.

Accounting for Petty Cash

Petty cash isn’t just free-floating money—it needs to be properly managed and accounted for. Since it is considered a current asset, it appears on the company’s balance sheet. The process typically involves the following:

1. Allocation: A business allocates a small sum—usually around AED 500 to AED 3,000, depending on its size and nature of operations.
2. Entry: This allocation is debited from the company’s bank account and credited to the petty cash account.
3. Expenses: When petty cash is used for expenses like employee claims or office supplies, the relevant expense account is credited.

Common Uses of Petty Cash

The primary purpose of petty cash is to streamline payments for unexpected or minor purchases. Here are some typical scenarios where petty cash proves helpful.

Why Do Businesses Need Petty Cash?

Petty cash plays a crucial role in a business's daily operations. While modern payment methods dominate, having a small cash reserve is essential for efficiently handling minor, day-to-day expenses. 

Here’s why petty cash remains an indispensable tool for businesses.

1. Convenience for Small Expenses

Many small purchases are not worth the hassle of formal requests or bank transfers. For example, when an employee needs to buy stationery, it’s much simpler to use petty cash than to initiate a purchase order or wait for approvals. Petty cash allows these low-value, non-recurring expenses to be addressed quickly without disrupting the workflow.

2. Expense Control and Tracking

Petty cash is easier to manage than reimbursement systems, where employees spend their money and later claim it back. With petty cash, all transactions are tracked in a single record, simplifying expense management. It also limits spending to the amount available, giving you more control over minor expenses.

3. Enhancing Operational Efficiency

Small but urgent purchases – such as getting A4 paper when the printer runs out – require immediate action. Relying on bank transfers or waiting for approvals can slow things down, especially in branch offices. Petty cash ensures that these small transactions can be handled swiftly without depending on central office approval.

4. Confidentiality and Security

Petty cash is usually managed by a designated custodian who ensures its proper usage. This person is responsible for keeping a record of all expenditures and ensuring that the cash is used appropriately. This system adds a layer of accountability, ensuring the funds are secure and well-monitored.

5. Reducing Administrative Costs

Payments through petty cash involve fewer steps than bank transfers or checks. This simplicity translates to reduced administrative costs, as businesses can avoid fees or complicated procedures that come with electronic payments. Additionally, keeping petty cash on hand eliminates the need for delivery costs for small items from the main office.

6. Handling Emergency Situations

Emergencies are unpredictable, and some require quick action. Whether it’s replacing a light bulb during a crucial presentation or buying ink for the printer, having petty cash available allows businesses to respond promptly. This ensures that operations can continue without delays caused by waiting for formal payment approval.

7. Cultural and Traditional Practices

In many business environments, using cash remains a common practice. Employees may be accustomed to having petty cash for small purchases, and its absence could disrupt workflows. Maintaining a petty cash system ensures smoother operations and a sense of continuity for employees in areas where cash is still widely used.

8. Empowering Employees

Allowing employees to access petty cash for minor purchases empowers them to make decisions independently. It also shows that the business trusts its staff to handle small expenses responsibly, boosting morale and promoting ownership over daily tasks.

Petty cash is more than just a small reserve of money. It streamlines small transactions, enhances operational efficiency, and allows businesses to handle unexpected expenses without going through complicated procedures. 

Examples of Petty Cash

While it may seem minor, Petty cash is essential for smooth business operations.

Here are some examples of petty cash.

The Difference Between Petty Cash and Cash on Hand

While the terms “petty cash” and “cash on hand” may sound alike and have some commonalities, it’s essential to understand that “cash on hand” is a broader term.

Below is a table that outlines the key differences between petty cash and cash on hand.

Understanding the differences between petty cash and cash on hand is crucial for effective expense management. While petty cash caters to daily operational needs with minimal risk, cash on hand is a broader financial resource reserved for emergencies and significant expenditures.

Setting up a Petty Cash Management System: A Comprehensive Guide

A petty cash management system helps companies use petty cash reserves appropriately and serves as an internal control to safeguard that asset. A company can be vulnerable to theft without a system for handling petty cash. 

Here’s a comprehensive guide on how to set up a petty cash management system in your organisation.

1. Understand the Purpose of Petty Cash

Petty cash is used for everyday expenses, such as office supplies, meeting snacks, or small travel costs. It provides a quick way to handle these costs without lengthy approval processes. Understanding its purpose will help define your system.

2. Determine the Petty Cash Fund Amount

Establishing an appropriate fund amount is crucial. Typically, petty cash funds in the UAE range from  AED 183 to AED 1100, which can differ depending on the size of the business and the volume of expected transactions.

Factors to Consider while determining the petty cash fund amount:

• Business Size: Larger organisations will require a higher fund amount.
• Expense Frequency: Evaluate how often petty cash is accessed to determine the necessary amount.
• Risk Assessment: Analyse potential risks of larger funds, including theft or misuse.

3. Appoint a Custodian

Designate a reliable employee as the petty cash custodian. This individual will oversee the fund, ensuring proper management and accountability.

Responsibilities of the Custodian include:

• Maintaining accurate records of all transactions.
• Approving petty cash requests based on established criteria.
• Conducting regular reconciliations of the fund.

Also, Read Petty Cash Reconciliation: How Businesses Can Do It Right

4. Develop a Petty Cash Policy

Develop a clear policy outlining how petty cash will be used. A clear petty cash policy can prevent misuse and mismanagement of petty cash and streamline expense management.

The policy should cover:

• Authorised Expenses: Clearly outline what types of expenses are permissible.
• Approval Protocols: Specify who is authorised to approve petty cash requests and what documentation is required.
• Spending Limits: Establish maximum limits for individual expenses (e.g., AED 2000 for office equipment) to curb misuse.
• Documentation Requirements: Detail the types of receipts or invoices needed for reimbursement.

Also, Read How e-receipts streamline business spend

5. Set Up a Petty Cash Log

Create a petty cash log to record all transactions. This log should include:

• Date of Transaction: When the expense occurred.
• Description of Expense: Briefly explain what the money was spent on.
• Amount Spent: The exact amount withdrawn from the fund.
• Remaining Balance: The amount of money left in the petty cash fund after each transaction.

This log can be either a physical ledger or a spreadsheet and should include:

Date

Vendor

Employee

Description

Amount

Running Total

Remaining Balance

You can use a spreadsheet or accounting software to maintain this log, ensuring it is easily accessible for reference and audits.

6. Issue Petty Cash

Once the policy and log are in place, you can start issuing petty cash. The custodian should withdraw the initial fund amount and keep it securely stored, usually in a locked cash box. When an employee requests petty cash, they must fill out a petty cash request form, which includes:

• Employee Name: The name of the person requesting funds.
• Purpose of Expense: A brief description of what the money will be used for.
• Amount Requested: The amount needed.

The custodian evaluates and approves the request before dispensing the cash and obtaining a signed receipt from the employee.

7. Conduct Regular Reconciliation

According to Harvard Business Review, companies tracking petty cash expenses can save up to 30% in operating expenses by eliminating unnecessary spending​.

Regular reconciliation is critical for maintaining the integrity of the petty cash fund. Set a consistent schedule, such as monthly, to conduct these reconciliations, which involve:

Reconciliation Steps:

• Cash Count: Physically verify the cash available in the petty cash box.
• Record Comparison: Cross-reference the cash count with the petty cash log and supporting receipts.
• Identify Discrepancies: Investigate any differences between the cash on hand and the recorded amounts.

Document findings and take corrective measures to address any discrepancies.

8. Replenish the Petty Cash Fund

Once the petty cash fund reaches a predetermined low level, it is time to replenish it. Calculate the total expenses incurred since the last replenishment and submit a request to the finance department.

Replenishment Procedure:

• Present the petty cash log along with all receipts to the finance team.
• Request the necessary funds to restore the petty cash to its original amount.
• For transparency, ensure that the replenishment aligns with the established petty cash policy.

9. Implement Monitoring and Auditing

Regular monitoring and auditing are essential to maintain the effectiveness of the petty cash system. This involves:

Monitoring Strategies:

• Periodic Reviews: Conduct scheduled reviews of the petty cash log and transactions.
• Surprise Audits: Perform unexpected audits to assess compliance with the petty cash policy.
• Data Analysis: Analyse spending patterns to identify unusual transactions or trends.

Adjustments and Improvements:

• Based on audit findings, adjust policies and procedures to enhance control and security.
• Train staff on compliance to minimise errors and potential misuse.

Establishing a petty cash management system requires meticulous planning and adherence to best practices. 

A well-managed petty cash system simplifies small expense management and contributes to better financial control and transparency within your organisation.

Also Read How Businesses Can Manage Petty Cash Smartly In 2024

13 Challenges Associated with Petty Cash Management

While managing petty cash can offer convenience, it also poses significant risks. Cash transactions are often complex to track, leading to potential losses that are difficult to trace. Setting up and maintaining petty cash funds can become burdensome, especially for larger organisations or SMEs.

Moreover, as businesses increasingly shift towards cashless operations, the relevance of petty cash is being questioned. Critics argue that digital payment methods are more secure, traceable, and less vulnerable to fraud—essential factors for smaller firms often facing theft issues.

Here are some challenges that arise within petty cash management.

1. Proper Documentation

Keeping track of all petty cash transactions is crucial. If employees don’t collect and submit receipts properly, it can lead to difficulties in verifying expenses and reconciling records. It’s important for staff to understand the need for thorough documentation to maintain financial integrity.

2. Recording Accuracy

Ensuring that all petty cash transactions are recorded accurately is essential. Errors in recording can create discrepancies during reconciliations, making the petty cash system less effective. Using digital tools or standard forms can help reduce the chance of mistakes.

3. Reconciliation Difficulties

Reconciling petty cash can be challenging, especially in larger organisations with numerous transactions. Balancing physical cash with recorded expenses requires careful attention. Regular reconciliations are necessary to spot and fix discrepancies early on.

4. Security Concerns

Petty cash can be vulnerable to theft or mishandling. It’s essential to implement security measures, such as secure lockboxes and access restrictions, to protect these funds. Surveillance can also help mitigate security risks.

5. Approval and Authorisation

Proper approval for petty cash expenditures is critical. Without a clear approval process, there’s a risk of unauthorised spending. Establishing a straightforward approval hierarchy can help ensure fiscal responsibility.

6. Compliance and Accountability

Maintaining compliance with internal policies and external regulations is an ongoing challenge. Ignoring established procedures can result in financial irregularities and potential legal issues. Creating a culture of accountability and conducting regular audits can help enforce compliance.

7. Technology Integration

Transitioning to digital tools for petty cash management can be difficult for businesses that rely on manual processes. Resistance to change and the need for staff training can hinder this integration, but embracing technology can improve efficiency and transparency.

8. Education and Training

Staff involved in petty cash transactions may lack the necessary knowledge of procedures and documentation requirements. Investing in training can empower employees and ensure they understand the importance of adhering to the petty cash policy.

9. Replenishment Timeliness

It’s crucial to replenish petty cash funds on time to ensure they are available for ongoing expenses. Delays can disrupt operations and create inconsistencies in financial records. Setting clear guidelines for replenishment can help manage this issue.

10. Lack of Oversight

Insufficient oversight can lead to misuse of petty cash. Appointing a custodian responsible for managing petty cash and establishing a clear oversight structure can prevent unauthorised access and improve accountability.

11. Reporting and Transparency

Generating accurate reports on petty cash transactions can be challenging, especially in manual systems. Using reporting tools and standard formats can enhance transparency and provide valuable insights for decision-making.

12. Handling Foreign Currencies

For organisations dealing with international transactions, managing petty cash in different currencies adds complexity. Fluctuating exchange rates and potential discrepancies require careful attention. Clear guidelines for handling foreign currencies can mitigate these challenges.

13. Avoiding Overuse

There’s a risk of employees using petty cash for non-essential expenses. Clearly defining the purpose and limits of petty cash usage, along with regular monitoring, can help prevent misuse. Educating staff about the intended use of petty cash reinforces responsible spending.

While maintaining petty cash has benefits, organisations must be aware of the associated challenges. These challenges can lead to inefficiencies, inaccuracies, and potential financial irregularities. 

However, investing in petty cash management software is one of the most effective solutions to these problems.

Also, Read UAE businesses are moving away from manual petty cash management, but why?

Using Software to Improve the Petty Cash Management System

Managing petty cash can be tricky, but the right software makes all the difference. In today’s digital world, Petty cash management software will significantly reduce errors and fraud by automating the reconciliation process. 

Simplified Documentation and Smoother Operations

Automation simplifies tasks and ensures a more accurate view of financial transactions, addressing issues with recording accuracy and reconciliation. The software offers a single source of truth, giving custodians easy access to all relevant documents and files for each transaction. This feature helps improve documentation and reduces the risks tied to manual record-keeping.

Better Accuracy and Fraud Prevention

An integrated petty cash management system can turn tedious manual processes into smooth operations. Linking the petty cash system to the leading expense management software simplifies calculating accounts. Real-time data improves visibility and control over finances, addressing security concerns and enhancing overall oversight.

Real-Time Data for Better Control

A 2023 HubSpot survey revealed that in 53% of businesses, the biggest expense management pain point is “employees losing paper receipts/submitting without receipts.”

Branch employees no longer need to keep physical receipts or proof of expenses. Instead, they can capture expenditures easily through mobile devices or corporate credit cards. This digital method simplifies the process, reducing the chances of cash shortages or replenishment issues. It also provides CFOs and other stakeholders with useful reports and real-time data to improve decision-making and support a culture of accountability and oversight.

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One of our customers, Punjab National Bank, faced similar challenges in their UAE branch.

Problem: Manual processes caused delays, errors, and limited visibility over petty cash transactions. When they adopted Alaan’s expense management platform, everything changed. 

Solution: Alaan’s solution automated petty cash handling, and by issuing corporate cards, PNB streamlined transactions and boosted transparency. Their management team gained real-time tracking and complete control over spending, freeing up valuable time for more strategic planning.

Read the full story - How Alaan helped the international branch of a leading bank get rid of its petty cash management woes.

By using petty cash management software, businesses like K4 have improved accuracy, efficiency, and transparency—turning a once tedious process into something seamless.  Schedule a demo with Alaan today to see how we can help transform your petty cash management!

Conclusion

In conclusion, petty cash is a practical solution for managing minor transactions within a business. However, it can be prone to misuse and financial discrepancies without effective management and oversight. While petty cash may seem straightforward, various challenges can complicate the process. Fortunately, the rise of petty cash management software offers a reliable and efficient method for overseeing these funds.

By adopting these modern tools, businesses can streamline their petty cash processes and ensure financial integrity. Investing in expense management software can significantly impact your bottom line; for instance, a 2023 HubSpot survey found that companies implementing such software achieved a remarkable 57% return on investment (ROI) in the first year and 70% after two years. Embracing these solutions enhances oversight and promotes accountability in your financial operations.

Schedule a demo with Alaan today to discover how we can transform how you handle petty cash expenses!