Balancing the Books: The Essential Process of Bank Reconciliations

A critical process in financial reporting and cash management is the bank reconciliation. This is a comparison between a company's reported cash balance and the corresponding amount per bank records. The purpose of regularly reconciling cash accounts is to ensure transactional accuracy, uncover discrepancies, record adjustments, and prevent fraud.

By clearly defining bank reconciliation objectives and procedures, companies can effectively manage cash, reduce errors, monitor financial reporting integrity, and support internal controls. I will outlines the definition and purpose of bank reconciliations, walks through the reconciliation preparation process, and provides examples of associated journal entries for cash adjustment transactions.

Understanding the fundamentals of bank reconciliation facilitates accurate financial recordkeeping and decision making based on reliable cash account reporting.

Define the Purpose of a Bank Reconciliation

A bank reconciliation is a process used to compare a company's cash balance in its accounting records to the corresponding cash balance reported by the bank. The purpose of a bank reconciliation is to:

  • Identify accounting errors or missing transactions
  • Detect bank errors or unauthorized transactions
  • Reconcile timing differences between when transactions are recorded in accounting records vs when they clear the bank
  • Update accounting records with items only reflected in bank statements like fees or interest
  • Prevent and uncover fraud or theft

By reconciling cash balances, companies can ensure their accounting records accurately reflect cash transactions and balances. This helps inform business decisions, meet tax obligations, prevent overdrafts, and monitor cash flow. Frequent bank reconciliations also limit opportunities for fraud by uncovering discrepancies quickly.

Prepare a Bank Reconciliation

The key steps to prepare a basic bank reconciliation are:

  1. Obtain bank statement and compare ending balance to accounting records
  2. List outstanding checks - deduct from bank statement balance
  3. List deposits in transit - add to bank statement balance
  4. List bank charges, fees, interest - adjust bank statement balance
  5. Adjust for any other reconciling items
  6. Adjust accounting cash records accordingly
  7. Ensure adjusted balances equal

Below is an example bank reconciliation for Company X:

Description Amount
Bank statement ending balance $10,000
Add: Deposits in transit +$1,000
Less: Outstanding checks -$500
Bank service fees -$50
Adjusted bank balance $10,450
Accounting cash balance $10,450

Journal Entries for Bank Reconciliation Adjustments

For any reconciling items that require an adjustment to the accounting cash balance, journal entries are required. Common examples include:

  • Bank fees - debit bank fees expense, credit cash
  • Interest earned - debit cash, credit interest income
  • NSF checks - debit bad debt expense, credit cash
  • Other reconciling items like encoding errors

Below is an example journal entry for the bank fees from the earlier reconciliation:

Account Debit Credit
Bank Service Fees $50
Cash $50

By defining the purpose of bank reconciliations, understanding the reconciliation process, and properly recording adjustments through journal entries, companies can ensure their cash is accurately stated. This supports financial reporting, cash management, and business decisions

9 Common Errors That Can Occur During Bank Reconciliation

  1. Missing or duplicate transactions in the accounting records or bank statement. This is one of the most common errors and leads to unreconciled differences in balances.
  2. Incorrect posting of transactions, such as posting a withdrawal as a deposit or vice versa. This can happen due to data entry errors or lack of review.
  3. Timing differences for deposits in transit or outstanding checks due to delays in checks clearing the bank or deposits being recorded.
  4. Mathematical or casting errors in totaling the cash book or bank statement balances. This usually happens when performing manual calculations.
  5. Posting errors due to transposition or inversion of numbers, like entering $1,290 instead of $1,209. Careless manual entries often cause this.
  6. Unauthorized transactions like fraudulent checks or transfers, or bank errors like incorrect fees. These would show only on the bank statement initially.
  7. Failure to account for items like bank fees and interest which get reflected only in bank statements.
  8. Using incorrect or outdated foreign currency exchange rates leading to discrepancies.
  9. Inaccurate opening balances carried forward from prior reconciliations.

To prevent errors, automated reconciliation through accounting software is recommended. Frequent reconciliations also help detect and resolve discrepancies early. Reviewing reconciliation reports and all reconciliation adjustments is also important.

Conclusion

In summary, a bank reconciliation is a critical process to:

  • Ensure accounting records reflect actual bank cash balances
  • Identify and resolve discrepancies
  • Record adjustments like bank fees and interest
  • Prevent and uncover errors and fraud

Completing timely bank reconciliations and associated journal entries maintains the accuracy of financial statements and cash balances. This gives stakeholders confidence in the reported balances while supporting internal financial decisions and controls.

Written By:
Salman Rundhawa
Salman Rundhawa is the founder of Filing Taxes. Salman provides valuable tax planning, accounting, and income tax preparation services in Toronto, Mississauga, Oakville, and Hamilton.

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