Bank reconciliation is the process of reconciling the balance in your Cash Book with the Bank Statement at the end of a certain period (month-end or year-end for example). In other words bank reconciliation is the process of reconciling the Cash account balance shown in the ledger of the business with the balance shown on the bank statement.
A cash book contains the record of all the money coming in and going out of the company. Companies maintain a cash book to keep track of all their cash related transactions. Cash includes money and cheques issued or received by the company. Before the digital age, companies used to maintain the cash book using paper registers but these days with the use of technological solutions, cash book is maintained using accounting softwares.
The main objective of a cash book is to successfully manage cash by making it simple to ascertain cash balances at any given time. This enables managers and corporate accountants to effectively budget their cash as necessary. Additionally, accessing monetary information through a cash book is far quicker than tracking it (cash) through a ledger.
A bank statement is a document that is normally provided by the bank to the account holder every month, detailing all of the transactions of an account throughout the month.
We will now discuss the complete bank reconciliation procedure. At the end of the discussion an illustration is also provided that will help you in getting a grip of the complete bank reconciliation process.
Many transactions either directly or indirectly affect the receipt or payment of cash. For instance, a sale of merchandise on account normally leads to a cash receipt when the account receivable is collected. Likewise, a purchase of inventory on account results in a cash payment when the account payable is paid. In fact, cash (in one form or another) is eventually involved in the settlement of virtually all business affairs.
It is appropriate to develop special controls to assist safeguard cash due to the enormous volume of cash transactions and the simplicity with which money can be exchanged. At the end of each business day, all cash received must be deposited into the company's bank account, and all cash payments (apart from petty cash disbursements) must be made from the company’s bank account using prenumbered checks. A duplicate record of every cash transaction is automatically kept using this straightforward control system, one by the business and the other by the bank.
It is appropriate to reconcile the Cash account balance recorded in the general ledger (or in your chequebook) with the balance supplied by the bank in order to ascertain the amount of cash that is currently accessible in the bank. When you perform a bank reconciliation for your own checking account, you compare the account balance that the bank reports on the bank statement to the account balance that is listed in the ledger. Timing differences and errors are the two main reasons that could cause the balances to be off.
Timing differences occur when the firm is aware of some transactions affecting the cash balance that the bank is not aware of, or the bank has recorded some transactions that the company is not aware of. The following are the most common timing differences:
Deposits in transit recorded in the company's Cash account but not yet added to the company's balance in the bank's records. Because it has been received, the deposit in transit reflects cash on hand in the eyes of the company. Deposits in transit are added to the bank's indicated (prereconciled) balance appearing on the bank statement during the bank reconciliation procedure.
Outstanding checks that have been credited (deducted) from the company's cash balance but have not yet been delivered to the bank for payment. Outstanding checks, in the company's opinion, should not be included in its cash balance because the company intended to disburse cash when it issued the checks. Outstanding checks are subtracted from the bank's declared balance during the reconciliation procedure.
Bank service charges on the company's account, as well as interest income added to the company's balance over the term. Because both the bank service fee and interest income affect the cash balance at the end of the period, the company should record them in the period in which they are incurred or earned. Bank service costs are removed from the company's reported balance during the reconciliation process, and interest income is added to the company's indicated balance.
NSF (not sufficient funds) checks are checks that have "bounced" from the maker's bank due to insufficient money in the account to cover the check. Because the company that received the check recorded it as a cash receipt and added the check amount to the balance of its Cash account, an account receivable for the amount due from the creator of the NSF check must be established. NSF checks are deducted from the company's stated balance during the reconciliation procedure.
If the book balance and bank balance do not reconcile after timing differences have been noticed, errors, which can be made by either the firm or the bank, are detected in what may be a trial-and-error procedure. Finding errors is a time-consuming process that includes double-checking the makeup and total of the list of outstanding checks, validating the debits and credits to the company's ledger account, and reviewing the arithmetic and amounts on the bank statement. If the error occurs in the recording of cash transactions on the company's accounts, a corrective journal entry must be produced.
Many computer-based bookkeeping systems have a bank reconciliation feature that might help with the process. However, even in today's electronic banking world, the necessity to reconcile checking accounts on a regular basis remains critical. Although many e-banking systems now record deposits instantly, checks still take time to clear, banks still charge fees for their services, and NSF checks and errors are just as likely to occur as in previous systems.
The bank statement showed a balance of $5,233.21 as of March 31.
The balance in the Cash account appearing in the Cash book of ABC, Inc., at March 31 was $4,614.58.
Included with the bank statement were notices that the bank had deducted a service charge of $42.76 and had credited the account with interest of $28.91 earned on the average daily balance.
An NSF check for $35.00 from a customer was returned with the bank statement.
A comparison of deposits recorded in the Cash account with those shown on the bank statement showed that the March 31 deposit of $859.10 was not on the bank statement. This is not surprising because the March 31 deposit was put in the bank’s night depository on the evening of March 31.
A comparison of the record of checks issued with the checks returned in the bank statement showed that the amount of outstanding checks was $1,526.58.
Prepare a bank reconciliation statement as of March 31, using the above information.
Reconciliation as of March 31:
|
From Bank Records |
From Company’s Books |
||
|
Indicated balance |
$5,233.21 |
Indicated balance |
$4,614.58 |
|
Add: Deposit in transit |
859.10 |
Add: Interest earned |
28.91 |
|
Less: Outstanding checks |
(1,526.58) |
Less: Service charge |
(42.76) |
|
|
|
NSF check |
(35.00) |
|
Reconciled balance |
$4,565.73 |
Reconciled balance |
$4,565.73 |