Bank Reconciliation
Bank Reconciliation
Introduction to Bank
Reconciliation
A company's general ledger account
Cash contains a record of the transactions (checks written, receipts from
customers, etc.) that involve its checking account. The bank also creates a
record of the company's checking account when it processes the company's
checks, deposits, service charges, and other items. Soon after each month ends
the bank usually mails a bank statement to the company. The bank statement
lists the activity in the bank account during the recent month as well as the
balance in the bank account.
When the company receives its bank
statement, the company should verify that the amounts on the bank statement are
consistent or compatible with the amounts in the company's Cash account in its
general ledger and vice versa. This process of confirming the amounts is
referred to as reconciling the bank statement, bank statement reconciliation,
bank reconciliation, or doing a "bank rec." The benefit of
reconciling the bank statement is knowing that the amount of Cash reported by
the company (company's books) is consistent with the amount of cash shown in
the bank's records.
Because most companies write
hundreds of checks each month and make many deposits, reconciling the amounts
on the company's books with the amounts on the bank statement can be time
consuming. The process is complicated because some items appear in the
company's Cash account in one month, but appear on the bank statement in a
different month. For example, checks written near the end of August are
deducted immediately on the company's books, but those checks will likely clear
the bank account in early September. Sometimes the bank decreases the company's
bank account without informing the company of the amount. For example, a bank
service charge might be deducted on the bank statement on August 31, but the
company will not learn of the amount until the company receives the bank
statement in early September. From these two examples, you can understand why
there will likely be a difference in the balance on the bank statement vs. the
balance in the Cash account on the company's books. It is also possible
(perhaps likely) that neither balance is the true balance. Both balances may
need adjustment in order to report the true amount of cash.
After you adjust the balance per
bank to be the true balance and after you adjust the balance per books to also
be the same true balance, you have reconciled the bank statement. Most
accountants would simply say that you have done the bank reconciliation or the
bank rec.
In addition to the following
explanation of the bank reconciliation, we have developed a visual tutorial,
business forms, and exam questions to help you reinforce your understanding.
They are part of
Bank Reconciliation Process
Step 1. Adjusting the Balance per
Bank
We will demonstrate the bank
reconciliation process in several steps. The first step is to adjust the
balance on the bank statement to the true, adjusted, or corrected balance. The
items necessary for this step are listed in the following schedule:
13X-table-01
Deposits in transit are amounts
already received and recorded by the company, but are not yet recorded by the
bank. For example, a retail store deposits its cash receipts of August 31 into
the bank's night depository at 10:00 p.m. on August 31. The bank will process
this deposit on the morning of September 1. As of August 31 (the bank statement
date) this is a deposit in transit.
Because deposits in transit are
already included in the company's Cash account, there is no need to adjust the
company's records. However, deposits in transit are not yet on the bank
statement. Therefore, they need to be listed on the bank reconciliation as an
increase to the balance per bank in order to report the true amount of cash.
A helpful rule of thumb is
"put it where it isn't." A deposit in transit is on the company's
books, but it isn't on the bank statement. Put it where it isn't: as an
adjustment to the balance on the bank statement.
Outstanding checks are checks that
have been written and recorded in the company's Cash account, but have not yet
cleared the bank account. Checks written during the last few days of the month
plus a few older checks are likely to be among the outstanding checks.
Because all checks that have been
written are immediately recorded in the company's Cash account, there is no
need to adjust the company's records for the outstanding checks. However, the
outstanding checks have not yet reached the bank and the bank statement.
Therefore, outstanding checks are listed on the bank reconciliation as a
decrease in the balance per bank.
Recall the helpful tip "put
it where it isn't." An outstanding check is on the company's books, but it
isn't on the bank statement. Put it where it isn't: as an adjustment to the
balance on the bank statement.
Bank errors are mistakes made by
the bank. Bank errors could include the bank recording an incorrect amount,
entering an amount that does not belong on a company's bank statement, or
omitting an amount from a company's bank statement. The company should notify
the bank of its errors. Depending on the error, the correction could increase
or decrease the balance shown on the bank statement. (Since the company did not
make the error, the company's records are not changed.)
Step 2. Adjusting the Balance per
Books
The second step of the bank
reconciliation is to adjust the balance in the company's Cash account so that
it is the true, adjusted, or corrected balance. Examples of the items involved
are shown in the following schedule:
13X-table-02
Bank service charges are fees
deducted from the bank statement for the bank's processing of the checking
account activity (accepting deposits, posting checks, mailing the bank
statement, etc.) Other types of bank service charges include the fee charged
when a company overdraws its checking account and the bank fee for processing a
stop payment order on a company's check. The bank might deduct these charges or
fees on the bank statement without notifying the company. When that occurs the
company usually learns of the amounts only after receiving its bank statement.
Because the bank service charges
have already been deducted on the bank statement, there is no adjustment to the
balance per bank. However, the service charges will have to be entered as an
adjustment to the company's books. The company's Cash account will need to be
decreased by the amount of the service charges.
Recall the helpful tip "put
it where it isn't." A bank service charge is already listed on the bank
statement, but it isn't on the company's books. Put it where it isn't: as an
adjustment to the Cash account on the company's books.
An NSF check is a check that was
not honored by the bank of the person or company writing the check because that
account did not have a sufficient balance. As a result, the check is returned
without being honored or paid. (NSF is the acronym for not sufficient funds.
Often the bank describes the returned check as a return item. Others refer to
the NSF check as a "rubber check" because the check
"bounced" back from the bank on which it was written.) When the NSF
check comes back to the bank in which it was deposited, the bank will decrease
the checking account of the company that had deposited the check. The amount
charged will be the amount of the check plus a bank fee.
Because the NSF check and the
related bank fee have already been deducted on the bank statement, there is no
need to adjust the balance per the bank. However, if the company has not yet
decreased its Cash account balance for the returned check and the bank fee, the
company must decrease the balance per books in order to reconcile.
Check printing charges occur when
a company arranges for its bank to handle the reordering of its checks. The
cost of the printed checks will automatically be deducted from the company's checking
account.
Because the check printing charges
have already been deducted on the bank statement, there is no adjustment to the
balance per bank. However, the check printing charges need to be an adjustment
on the company's books. They will be a deduction to the company's Cash account.
Recall the general rule, "put
it where it isn't." A check printing charge is on the bank statement, but
it isn't on the company's books. Put it where it isn't: as an adjustment to the
Cash account on the company's books.
Interest earned will appear on the
bank statement when a bank gives a company interest on its account balances.
The amount is added to the checking account balance and is automatically on the
bank statement. Hence there is no need to adjust the balance per the bank
statement. However, the amount of interest earned will increase the balance in
the company's Cash account on its books.
Recall "put it where it
isn't." Interest received from the bank is on the bank statement, but it
isn't on the company's books. Put it where it isn't: as an adjustment to the
Cash account on the company's books.
Notes Receivable are assets of a
company. When notes come due, the company might ask its bank to collect the
notes receivable. For this service the bank will charge a fee. The bank will
increase the company's checking account for the amount it collected (principal
and interest) and will decrease the account by the collection fee it
charges.Since these amounts are already on the bank statement, the company must
be certain that the amounts appear on the company's books in its Cash account.
Recall the tip "put it where
it isn't." The amounts collected by the bank and the bank's fees are on
the bank statement, but they are not on the company's books. Put them where
they aren't: as adjustments to the Cash account on the company's books.
Errors in the company's Cash
account result from the company entering an incorrect amount, entering a
transaction that does not belong in the account, or omitting a transaction that
should be in the account. Since the company made these errors, the correction
of the error will be either an increase or a decrease to the balance in the
Cash account on the company's books.
Step 3. Comparing the Adjusted
Balances
After adjusting the balance per
bank (Step 1) and after adjusting the balance per books (Step 2), the two
adjusted amounts should be equal. If they are not equal, you must repeat the
process until the balances are identical. The balances should be the true,
correct amount of cash as of the date of the bank reconciliation.
Step 4. Preparing Journal Entries
Journal entries must be prepared
for the adjustments to the balance per books (Step 2). Adjustments to increase
the cash balance will require a journal entry that debits Cash and credits
another account. Adjustments to decrease the cash balance will require a credit
to Cash and a debit to another account.
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