Collections for Third Parties

Definition

The term collections for third parties refers to money collected from customers on behalf of another entity.  The most common examples include sales and payroll taxes.  When a company collects this money, the intention is to eventually transfer it to the third party.  Following the receipt of this cash, the company would classify the collections as a current liability on the balance sheet.

Explanation

Current liabilities are defined as debts that must be paid within one year or one operating cycle, whichever is longer.  When a company collects money from a customer or employee on behalf of a third party, this transaction becomes part of a larger group of liabilities from advance collections, which is a component of the company's definitely determinable liabilities, since it's both known to exist and can be measured precisely.

Collections for third parties include money received from customers as well as employees.  For example, a company may collect state sales tax, which is eventually remitted to a state agency.  A company may also collect payroll taxes, such as Social Security, or FICA, which would be transmitted to a federal agency.  Companies can also collect money for third parties such as insurance carriers and medical care providers as part of a payroll deduction program.

Since the money collected will eventually be transmitted to the third party, the company would record the transaction as an increase to cash and a corresponding increase to a current liability.  When the money is transmitted to a third party the balance in the current liability account decreases as well as the cash account.

Example

Company A does business in New Jersey, and is responsible for collecting a 7.0% state sales tax.  This money is payable to the New Jersey Treasury Department on a quarterly basis.  In the month of March, Company A collected $2,140,000 from customers.  This represented $2,000,000 in revenue and $140,000 in New Jersey state sales tax.  On April 1, Company A transmitted $425,000 in state sales tax collected in the first quarter of the year.

The journal entry to record the third party collection would be as follows:

  Debit Credit
Cash $2,140,000  
Revenue   $2,000,000
Sales Tax Payable   $140,000

While the journal entry to record the transfer of the sales tax collected to the New Jersey Treasury Department would be as follows:

  Debit Credit
Sales Tax Payable $425,000  
Cash   $425,000

Related Terms

current liabilities, definitely determinable liabilities, liabilities from advance collections, advances from customers, refundable deposits, accrued liabilities