A clearing account, also known as a wash account or zero-balance account, can be seen as a go-between for different types of transactions that have not yet taken place, or require further detail before processing.
For example, when conducting payroll, many companies place the salary payments into a clearing account before distributing the money to employees. If all the pay cheques are distributed correctly, then the clearing account will show a balance of $0. If a positive amount is still shown, then it is clear that there has been an error and further action needs to be taken.
A clearing account and a suspense account are commonly mistaken for one another, and this is understandable as they do share a key similarity – they are both a form of temporary account. However, a clearing account is a method of placing money to one side in instances where a direct transfer from one account to another is not possible. A suspense account, however, is used to set aside funds that are in dispute or under investigation.
How is a clearing account used?
You can set up a clearing account using your preferred banking software (Xero, for example). Some will be through third-party plugins, but others will have their own facility to set one up.
To use a clearing account effectively, you will want to maintain the account at a zero balance, as you will always take out or put in the exact sum required to complete each transaction. This means that a sum of $0 is an indicator that all transactions have been completed successfully.
You should monitor the account monthly to make sure this is the case – this process of checking and balancing is known as clearing account reconciliation. A positive balance remaining in your clearing account after this period is a clear indicator of a problem that needs rectifying, such as an uncashed cheque or an issue processing a payment.
What are the advantages and disadvantages of a clearing account?
Opening and maintaining a cash clearing account is a strategy that many businesses employ in order to keep track of their monthly outgoings and to address any payment issues that arise before they start stacking up. Its advantages extend to almost all types of expenses and payments, from tax and trading to processing payroll.
This is considered a healthy practice, and one that shows a good level of attention and diligence, especially when dealing with other businesses. For example, if after making a purchase from another business you notice that your clearing account is still in the positive a month later, you would be able to demonstrate your honesty and trustworthiness by reaching out and reminding the vendor to cash the cheque.
On the other hand, when increasing the frequency at which your business transfers money into different accounts, you may notice that your rate of interest accrual is lower as a result. For most businesses this is a small price to pay for having the high level of oversight into your finances that a clearing account can offer. Really, it is up to the individual business owner to decide what is best in both the short and long term.
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If you’re interested in finding out more about price-to-book ratios, then get in touch with the financial experts at GoCardless. Find out how GoCardless can help you with ad hoc payments or recurring payments.