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Journal Entry for Security Deposit – a Comprehensive Guide

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Security deposits are frequently used in rental agreements and contractual arrangements. Landlords or business owners often ask for security deposits to secure commitment before renting out commercial spaces or vehicles or starting any contract work. Additionally, these deposits are a final option in case of payment issues related to the rental or contract.

In this article, we will explore the accounting treatment for security deposits, providing examples of journal entries from the perspectives of both the entity paying the security deposit and the entity receiving it. We’ll also show you the journal entry for the security deposit refund, either when it is refunded as cash or sometimes as the final payment. We will also talk about security deposit in the context of ASC 842 Lease Accounting.

Journal Entry for Paying or Collecting Security Deposit (Refundable)

This section will demonstrate the journal entries the lessee and the lessor need to record for the security deposit in their books.

To illustrate, let’s assume Maxwell Company entered into a lease agreement with Gladstone Properties to lease out its office space in Manhattan, New York. Gladstone required a security deposit of $5,000, which is refundable at the end of the lease term.

Payment of Security Deposit (Lessee)

In the books of Maxwell (the lessee), the journal entry looks like this:

Journal Entry for Security Deposit - Payment of Security Deposit

Notes on the entry:

  • The $5,000 debit to the Security Deposit account is the amount Maxwell paid to the landlord or lessor. 
  • In lessee’s books, the Security Deposit account is an asset account that can either be a current or long-term asset. Simply put, it’s similar to a “receivable” account, as the deposit is refundable. If the lease term is less than a year, classify the security deposit account as a current asset. Otherwise, classify it as a long-term asset. Regardless of the term, this payment will only be reflected on the balance sheet without impacting the P&L or the income statement.
  • The $5,000 credit to Cash is Maxwell’s payment to the landlord.

Collection of Security Deposit (Lessor)

In the books of Gladstone Properties (the lessor), the journal entry looks like this:

Journal Entry for Security Deposit - Receipt of Security Deposit

Notes on the entry:

  • The $5,000 debit to Cash-Restricted is the amount Gladstone received for the security deposit from Maxwell. It is restricted because the lessor can’t spend it anywhere else due to its refundable nature.
  • The $5,000 credit to the Security Deposit account is the amount “owed” by the lessor, as it will most likely be refunded to the lessee at the end of the term.
  • In lessor’s books, the Security Deposit account is a liability account that can be classified as either current or long-term liability. If the lease term is less than a year, classify the security deposit liability account as a current liability. Otherwise, it’s a long-term liability. Similarly, this collection will only be reflected on the balance sheet with no P&L or income statement impact.
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Journal Entry for Security Deposit Refund

At the end of the lease term, the lessor should return the security deposit to the lessee. Let’s look at the journal entries below.

Receiving the Security Deposit Refund (Lessee)

Maxwell didn’t renew the lease contract with Gladstone, which makes the latter liable for returning the security deposit. 

In the books of Maxwell (Lessee), the journal entry looks like this:

Journal Entry for Security Deposit - Refund of Security Deposit (Lessee)

Notes on the entry:

  • The $5,000 debit to Cash signifies the receipt of the refund from the lessor.
  • The $5,000 credit to Security Deposit removes the balance in the asset account where the deposit was recorded initially.

Refunding the Security Deposit (Lessor)

Since Gladstone (lessor) has refunded the security deposit, they should make the following entry:

Journal Entry for Security Deposit - Refund of Security Deposit (Lessor)

Notes on the entry:

  • The $5,000 debit to the Security Deposit account reverses the liability balance recorded earlier.
  • The $5,000 credit to Cash signifies that the security deposit refund has been pulled from their bank account.

To conclude, the refund journal entry for the security deposit is basically the reversal of the journal entry when the security deposit was first made. Due to its nature, the security deposit does not affect the Profit & Loss (P&L) or income statement but is merely reflected on the balance sheet.

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Journal Entry for Security Deposit Used as Final Payment (Non-refundable)

Some security deposits can be applied as the final payment or are non-refundable. When this happens, the security deposit becomes an advanced payment in the books of the entity receiving it. To illustrate, let’s assume Phil contracted with Builders Co. to renovate his house. The contractor asked for a $5,000 security deposit that will be used as a final payment upon completion of the construction project.

The journal entry for Builders Co. to record this transaction is:

Journal Entry for Security Deposit - Receipt of Security Deposit (non-refundable)

Notes on the entry:

  • The $5,000 debit to Cash is the payment from Phil for the renovation project.
  • The $5,000 credit to Unearned Revenue is the amount of revenue that Builders Co. will only recognize upon completion of the project. It is a liability because Builder’s Co hasn’t technically earned the money yet at the beginning of the construction project.

The Journal entry for Phil to record the security deposit is:

Journal Entry for Security Deposit - Payment of Security Deposit (non-refundable)

Notes on the entry:

  • The $5,000 debit to Prepaid Expense is the “security deposit” for the renovation project. Because it is non-refundable, it’s technically a payment made in advance to contract Builders Co. Prepaid Expense is an asset account.
  • The $5,000 credit to Cash signifies payment has been withdrawn from Phil’s account.
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Assuming Builders Co. has completed the project after three months. The journal entry in Builder’s books is:

Journal Entry for Security Deposit - Recognizing Revenue

Notes on the entry:

  • The $5,000 debit to Unearned Revenue removes the deferred revenue balance, as Builder’s has earned the revenue and no longer carries this “liability.”
  • The $5,000 credit to Construction Revenue formally recognizes the revenue because the project has been completed.

The journal entry in Phil’s books is:

Journal Entry for Security Deposit - Recognizing Expense

Notes on the entry:

  • The $5,000 debit to Construction Expense formally recognizes the expense from the “prepayment” because the project has been completed.
  • The $5,000 credit to Prepaid Expense removes the asset balance recorded earlier, as Phil has fully utilized this payment when it is applied towards the last part of the construction.
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842 Lease Accounting and Security Deposits

Security Deposits are also prevalent in lease arrangements subject to ASC 842. Whether or not it can be treated as simply as described above depends on one key question: is the security deposit refundable?

If the security deposit is refundable, it will not go through the complex treatment of ASC 842. Simply debit the “Security Deposit” account and credit Cash will do the job as it won’t impact the overall lease liability.

If the security deposit is non-refundable, it will be treated as a lease payment, and the journal entries described in this article will not be the proper way to record it. As the security deposit is usually paid upfront, please refer to this article for detailed guidance: Prepaid Rent Under ASC 842 – a Step-By-Step Guide & Example

Key Takeaways

  • The accounting entry for the security deposit receipt includes a debit to Cash and credit to Security Deposit (liability) in lessor’s books. On the other hand, the entry for the security deposit payment consists of a debit to Security Deposit (asset) and a credit to Cash in lessee’s books.
  • The accounting entry for the refund of the security deposit includes a debit to Security Deposit (liability) and credit to Cash in lessor’s books. The entry for the receipt of the refund is a debit to Cash and credit to Security Deposit (asset) in lessee’s book.
  • Suppose the security deposit is non-refundable or will be used as the last payment. In that case, it is treated as “Unearned Revenue” for the receiving entity and “Prepaid Expense” for the paying entity. Revenue and expense will be recognized when this “deposit” is applied, usually towards the end of the contract.
  • In the context of ASC 842 lease accounting, refundable security deposit will not have other special treatmenet. If the security deposit is non-refundable, it is treated as a lease payment and will go through more complex consideration.

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