What Is the Undeposited Funds Account? How It Works and How to Clear It

Every small business has an account it doesn’t quite understand, and for a remarkable number of them it is the Undeposited Funds account. It appears in the chart of accounts without being asked for, collects a balance nobody can explain, and turns up on the balance sheet as an asset of several thousand dollars that is, on closer inspection, nowhere at all.

It doesn’t have to be mysterious. Undeposited Funds solves one specific problem — several payments going into the bank as one deposit — and once you see that problem clearly, the account behaves. This guide follows one business through it: Harbor Street Plumbing, which collects three checks on a Monday, banks them on Tuesday, and takes card payments through a processor that pays out net of fees.

What Is the Undeposited Funds Account?

Think of it as the cash drawer in your books. When a customer pays, the money is yours immediately — the invoice is settled, accounts receivable goes down — but it isn’t in the bank yet. Undeposited Funds is where that money waits between the moment you receive it and the moment it is deposited.

On Monday, Harbor Street receives three checks: $1,200, $850 and $450. On Tuesday the office manager takes all three to the bank on one deposit slip. The bank statement will show a single line: $2,500. Not three lines. One.

Is Undeposited Funds an asset or a liability?

An asset — normally an Other Current Asset, sitting alongside your bank accounts on the balance sheet. Nothing is owed to anyone; the customer has paid and the money belongs to you. It is simply in transit. That is also why the balance should be small: at any given moment it should equal the checks in your drawer and the card batches that haven’t settled. Some software labels the same account differently — QuickBooks Online, for example, has shown it as “Payments to deposit” — but the accounting is identical.

Why Undeposited Funds Exists: Making the Books Match the Bank

Without a holding account, you have two bad choices. Post each check straight to the bank and your ledger shows three deposits of $1,200, $850 and $450, while the bank shows one of $2,500. When you reconcile the bank statement, nothing matches line for line, and you end up ticking off combinations of amounts by hand to make the total work. Or you record a single $2,500 deposit and lose track of which customers paid what.

Undeposited Funds removes the trade-off. Each payment is recorded against its own customer and invoice, and the deposit is recorded as one amount that matches the bank exactly. Both records are right.

Do I have to use Undeposited Funds?

No, and you shouldn’t use it for everything. A wire or ACH transfer from a single customer reaches the bank as its own line, so post it straight to the bank account. Use Undeposited Funds when payments are combined before they reach the bank: a stack of checks, a day’s cash, or a card processor that settles many transactions into one payout.

How Undeposited Funds Works: The Two Entries

Money moves through the account in two steps. First, each payment comes in. If it settles an invoice:

Repeat for the $850 and $450 checks. (If the payment is a cash sale with no invoice — a sales receipt — the credit goes to income instead of receivables, but the debit to Undeposited Funds is the same.) Undeposited Funds now holds $2,500.

Second, on Tuesday, the deposit is recorded as one transaction that selects all three payments:

Undeposited Funds is back to zero, Checking shows a single $2,500 deposit that matches the statement, and every customer’s payment history is intact. No income account was touched in the second entry — the revenue was recorded when the work was invoiced. If the two-sided logic of these entries is new to you, double-entry bookkeeping is the short version.

Card Payouts Net of Processor Fees

Card processors add a wrinkle: they deduct their fee before paying you. Suppose Harbor Street takes ten card payments totalling $3,000 in a week, and the processor charges 2.9% plus $0.30 per transaction (illustrative rates — check your own statement). That is $90 in fees, so the bank receives $2,910.

How do I record a Stripe or Square payout?

Record each payment at its full amount into Undeposited Funds — the customer paid $300, not $291. When the payout arrives, record one deposit that selects those payments and adds a fee line:

Revenue stays at the true gross figure, the fee lands in expenses where it belongs, and the deposit matches the payout to the cent. The mistake to avoid is recording the sales at the net amount: it understates revenue and hides what you are actually paying to accept cards. Our guide to recording merchant fees covers the fee side in more detail.

Why Is My Undeposited Funds Balance So High?

A balance that only grows almost always has one cause: payments went into Undeposited Funds, but the money reached the bank through a different transaction. The classic route is a bank feed. The deposit appears in the feed, someone accepts it as new income instead of matching it to the payments waiting in Undeposited Funds, and the books now show the money twice — once as the original payment, stranded, and once as fresh revenue.

An inflated Undeposited Funds balance is rarely missing money. It is usually counted money — counted twice. Which means your income is overstated by the same amount.

How do I clear old Undeposited Funds?

1. List what’s in it. Pull every payment sitting in Undeposited Funds, oldest first, with date, customer and amount.
2. Find each one in the bank. For each payment or group of payments, look for the bank deposit that contains it, usually within a few days of the payment date.
3. Find how that deposit was recorded. If it was entered as separate income, that is a duplicate. Delete or void the duplicate and record the deposit properly, selecting the waiting payments.
4. Investigate what’s left. A payment that never reached the bank is either still in a drawer, was recorded in error, or is genuinely missing. Each needs its own answer.
5. Only then consider a journal entry. Journaling the whole balance to an expense “to clean it up” leaves the duplicate income in place and overstates profit. Adjust with intent, not to make a number disappear.

How BizBooks Pro Handles Undeposited Funds

This is work the software should do for you, because the failure mode is silent: nothing errors, the balance just creeps.

• Payments and sales receipts can both be received into Undeposited Funds, each still tied to its own customer and invoice.
• A dedicated Make Bank Deposit screen lists every payment waiting in Undeposited Funds; tick the ones on the deposit slip and BizBooks Pro posts one deposit to the bank account you choose.
• A “Less fee withheld” line on that screen handles processors that deduct their fee before paying out. Enter the fee, pick the expense account, and the deposit total matches the payout while revenue stays gross.
• Reconciliation lines up because the deposit in your books is the same single amount as the line on your bank statement.
• A real double-entry ledger underneath means Undeposited Funds, receivables and the bank can never quietly disagree — an unbalanced entry doesn’t post.

Frequently Asked Questions

What is the Undeposited Funds account?

A current asset account that holds customer payments you’ve received but not yet deposited. Checks, cash and card batches sit there until you record a bank deposit, which moves them out together as one amount. That way the deposit in your books matches the single line on your bank statement, and reconciliation works.

Is Undeposited Funds an asset or a liability?

An asset, usually classified as Other Current Asset. The money is already yours — the customer has paid and the invoice is settled. It just hasn’t reached the bank, so it waits in a clearing account that works like a cash drawer. The balance should be small and represent only payments waiting to be banked.

Do I have to use Undeposited Funds?

No. If a payment reaches the bank on its own, like a single wire or ACH transfer, post it straight to the bank account. Undeposited Funds earns its keep when several payments go into the bank as one combined deposit — a stack of checks or a card payout — because it lets you match one bank line to several receipts.

Why is my Undeposited Funds balance so high?

Almost always because payments were received into Undeposited Funds but the deposit was recorded separately, often by accepting a bank feed transaction as new income instead of matching it to the waiting payments. The payment stays stranded and the income is counted twice. The fix is to match each deposit to its payments, not to journal the balance away.

How do I record a Stripe or Square payout that is net of fees?

Record each sale or payment at its full amount into Undeposited Funds. When the payout arrives, create one deposit that selects those payments and adds a negative fee line for the processor’s charges, posted to a Merchant Fees expense account. The deposit then equals the net amount the bank received, while revenue stays at the gross figure.

Can I just write off an old Undeposited Funds balance with a journal entry?

Only once you know what the balance is. If it’s payments that were deposited but recorded twice, the correction reduces income or removes the duplicate deposit — not an expense. If the money genuinely never reached the bank, it may be lost or still in a drawer. List the stranded payments by date first, then decide entry by entry.

The Bottom Line

The Undeposited Funds account comes down to one sentence: it holds money you’ve received but not yet banked, and it should empty every time you make a deposit. Two entries carry the whole idea — one when each payment arrives, one when the deposit goes in.

Use it when payments are combined before they reach the bank, skip it when they aren’t, and look at the balance every month-end. If you can name every payment in it, the account is doing its job. If you can’t, the answer is almost always a deposit recorded twice — and it is far easier to find this month than at year end.

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