What Is Restricted Cash?
Restricted cash is money a company has set aside for a specific purpose and therefore cannot be used for general operations. Unlike unrestricted cash, restricted cash is not freely available for spending or investment. The reason for the restriction is typically disclosed in the notes to the financial statements.
Key Takeaways
- Restricted cash is earmarked for a particular use and is not available for general business purposes.
- It is reported separately from cash and cash equivalents on the balance sheet, with the restriction explained in the financial-statement footnotes.
- Restricted cash can be classified as a current or non‑current asset depending on when it will be used.
- Common uses include collateral for loans, compensating balances, and funding planned capital expenditures.
Classification and Presentation
- Current vs. non‑current: If the restricted cash is expected to be used within one year, it is shown as a current asset; if not, it is shown as a non‑current asset.
- Balance-sheet presentation: Companies commonly present restricted cash as a separate line item (e.g., “restricted cash” or “other restricted cash”) or within other assets. The related footnotes should explain the purpose and terms of the restriction.
- Account location: The funds may be held in a separate bank account, but even if they are not segregated physically, they are still reported as restricted when their use is contractually limited.
Common Reasons for Restricting Cash
- Capital expenditures — funds set aside for major planned purchases such as equipment, plant upgrades, or construction.
- Loan or debt covenants — lenders may require a minimum balance (compensating balance) or a pledged amount as partial collateral for a loan or line of credit.
- Escrow and deposits — cash held for future customer refunds, insurance, or regulatory obligations.
- Legal or tax restrictions — court orders, tax liens, or statutory requirements that limit access to certain funds.
Special Considerations
- Change in intent: If the planned use does not occur, restricted cash can be reclassified as unrestricted and used for general purposes.
- Disclosure: Because restricted cash affects liquidity, clear disclosure of the amount and purpose of restrictions is important for users of the financial statements.
- Cash-equivalents treatment: Restricted cash is still a cash asset, but it is not included in the free cash available to management for routine operations.
Examples
- A company borrows funds to build a factory and places a portion of cash into a restricted account to ensure payment of construction costs.
- A bank requires a borrower to maintain a compensating balance equal to a percentage of a line of credit; that balance is reported as restricted cash.
- A seller deposits funds in escrow during an acquisition; those funds remain restricted until closing conditions are satisfied.
Conclusion
Restricted cash reduces the amount of cash available for day‑to‑day operations and can affect liquidity ratios and borrowing flexibility. Review the balance-sheet presentation and footnote disclosures to understand the amount, timing, and conditions of any cash restrictions.