An advance paid to an employee is essentially a short-term loan from the employer. As such, it is recorded as a current asset in the company's balance sheet. There may not be a separate account in which to store advances, especially if employee advances are infrequent; possible asset accounts in which to store this information are:
For example, if ABC International issues a $1,000 advance to employee Smith, it may record the initial transaction as follows:
No matter what method is later used to repay the company - a check from the employee, or payroll deductions - the entry will be a credit to whichever asset account was used, until such time as the balance in the account has been paid off.
Employee advances require considerable vigilance by the accounting staff, because employees who have limited financial resources will tend to use the company as their personal banks, and so will be reluctant to pay back advances unless pressed to do so repeatedly. Thus, it is essential to continually monitor the remaining amount of advances outstanding for every employee.
The best approach to handling employee advances is to prohibit them without the permission of senior management. Ideally, there should be very few employee advances per year.
One situation in which employee advances may be warranted is when the company plans to shift to less frequent payroll cycles, which means that employees will experience an initial period when they are not being paid. For example, shifting from a one week payroll cycle to a monthly cycle will require employees to initially go unpaid for a three-week period. This problem can be mitigated by granting employees payroll advances for the unpaid period, until the paychecks associated with the new payroll cycle are issued.
