Bank Reconciliation (BR)

Is the process of reconciling the bank account balance in an entity's books of account to the balance provided by the financial institution in the most recent bank statement.

Any discrepancy between the two figures should be investigated and, if necessary, corrected.

The bank statement contains the bank's record of all transactions affecting the entity's bank account throughout the previous month.

To guarantee that a company's cash records are accurate, a BR should be done at regular intervals for all bank accounts. Otherwise, there is a risk that cash levels may be far lower than what the accounts say, which may result in bounced checks or overdraft costs.

BR can uncover some types of fraud; this information can be utilized to develop improved controls over cash receipt and payment.

If a bank account has very little activity such that it doesn't need to be reconciled regularly, you should wonder why it exists at all. It could be preferable to close the account and transfer any remaining funds to a more active account.

It may be easier to invest the remaining funds and track the investment's progress if you do so.

It is recommended to perform a bank reconciliation, shortly after the end of each month, when the bank provides the company a bank statement detailing the bank's opening cash balance, monthly transactions, and closing cash balance.

In an ideal world, it would be best to perform reconciliation daily, using the bank's month-to-date information which should be available on logging in to the bank's website. You can discover and rectify problems quickly by doing a reconciliation every day.

Importance of reconciling bank statement

A reconciliation exercise between the bank and books of accounts is undertaken to confirm that all transactions for a specific time (such as the rent payment stated above) have been correctly accounted for (usually monthly).

As previously stated, the transactions in the internal accounting system are compared to the actual bank or credit card statement, with the understanding that they should, for the most part, mirror each other. When they don't, it's time to conduct an investigation and, if necessary, make improvements.

A bank reconciliation should provide you peace of mind about your general ledger balance (accounting system) and how it relates to the amount on your bank or credit card statement at the end of the month.

You should be able to explain why the accounting system's bank and credit card balances differ from your actual balances. If you don't, you should look into it or employ someone to assist you.

It serve a variety of purposes:

• Ensures transaction accuracy (Are amounts recorded correctly?)
• Ensures that transactions exist (Are the amounts appearing on the bank or credit card statement are showing up in the accounting system and vice versa)
• Detecting and preventing fraud before it's too late
• Detecting any other mistakes or problems (such as bounced payments, banking errors, and miscellaneous fees)

BR Procedure

• Get your reconciliation form ready. You may make your bank reconciliation form as simple or as complex as you want.
• Examine the deposits. If you frequently make deposits into your account, you should compare the totals in your bank account to the totals in your general ledger.

To discover uncleared checks and deposits in transit, compare the company's list of issued checks and deposits to the checks reflected on the bank statement.

• Add back any deposits in transit using the cash balance stated on the bank statement.
• Subtract any unpaid checks.
• The altered bank cash balance will be displayed as a result of this.
• Then, add any interest earned and the number of notes receivable to the company's ending cash balance.
• Subtract any bank fees, fines, or NSF checks. As a result, the company's cash balance will be altered.
• Adjust the bank total by comparing checks. It's not unusual for your bank statement to display a greater ending balance than your G/L account.
• Adjust the G/L ratio. Even after including the outstanding checks, the BR form above still does not balance.
• Make a journal entry. Recording journal entries to finish the balancing process is the final stage in the bank reconciliation procedure.
• The adjusted bank balance should equal the company's ending adjusted cash balance after reconciliation.

Benefits of Bank Account Reconciliation

• Preventing Mistakes

Human errors in the system are always conceivable, no matter how reliable the mechanisms are.

For example, your bank could make an error while recording your deposit, resulting in a larger balance in your account that it should be.

With reconciliation, on the other hand, you can correct errors by pointing them out after the fact.

• Detection of Fraud

It aids in the detection of fraudulent activity in your account. When your records don't match the bank's records, you'll wonder why there's a discrepancy.

On the other hand, if you don't reconcile your bank account regularly, fraudulent transactions may go undetected.

As a result, early detection of fraudulent activities may assist you in recovering your funds. It also ensures that such a transaction does not occur again.

• Keeping track of account fees

The bank's records will show you all of the fees that have been levied to your account. These charge payments are usually not recorded in the bank's customer records.

In addition, you may be unaware of several types of bank charges or taxes in your account. Reconciliation allows you to ensure that all costs imposed by your bank are correct and follow your account terms.

• Maintains the account's good standing.

It is important for keeping your bank accounts in excellent order and this can be accomplished if you know exactly how much money you have in your account.

Businessmen frequently neglect to pay their invoices on time due to their hectic schedules. To avoid this, most firms choose to have their monthly fees deducted automatically from their bank account.

These bill payments frequently go unnoticed by business owners. As a result, the account is likely to go into overdraft or miss a payment. Bank account reconciliation is a smart way to avoid such scenarios.

• Receivables Management

Many clients choose to pay their bills using a check. Because your company's accounting department gets a large number of cheques each month, they may forget or misplace some of them, leaving them uncashed.

So, if you don't reconcile your bank account regularly, you might not receive that amount of money. On the other hand, if you sit down to reconcile your bank account, you will notice a discrepancy between your records and your bank's records.

When you compare the transactions, you'll notice that your records indicate payments from your clients, but your bank's records don't. As a result, bank account reconciliations confirm all of your receipts, allowing you to spot entries for receipts you didn't deposit.

Disadvantages of Reconciling Bank with Books of Account

• Cheques that have been left unopened may result in a mismatch.

Your debtors may fail to encash a check you've written to them in the course of your business. When a cheque is not cleared, it indicates that the creditors do not deliver it to the bank for payment.

You would have lowered your bank balance by the amount of the cheque when you wrote it in favor of the creditor.

However, because the creditor does not present the check to the bank, your actual bank balance remains higher than what you have on file.

As a result, when it comes time to reconcile, you will discover a disparity between the two records.

• Banks' Records of Date Changes

It's possible that the dates on which your bank records transactions differ from the dates on which you record them.

When you write a cheque in favor of a creditor, for example, you will note the date you issued the cheque in your books.

The creditor, on the other hand, may encash that check after a month has passed since you wrote it.

Additionally, you will record cheques received from your accounts receivable on the date you receive the cheque, although the bank may process the payment beyond three days.

Multiple similar occurrences can make it difficult to reconcile your bank accounts. Not only that, but it increases the chances of an unauthorized transaction from your account going undetected.

• There Are Too Many Transactions

A bank reconciliation statement might become a nuisance if you run a large and thriving firm with a lot of transactions using a single bank account. The reasons are obvious.

For starters, too many transactions will result in a long list of transactions to review. Second, the more the number of transactions, the more difficult it will be to match them.

When you add in the fact that you and your bank have different dates for numerous transactions, the reconciliation procedure becomes difficult.

How to automate the procedure

Regardless of their size, industry sector, or geographic location, the vast majority of businesses spend a significant amount of time manually checking and matching transactions, as well as creating and posting journals, to complete their reconciliations.

These tasks will be performed on a monthly, weekly, or even daily basis, depending on the needs of the business and the corresponding transaction volumes.

To help with the transaction matching aspect of reconciliations, many firms use spreadsheet-based systems.

However, few (if any) firms claim to have automated the entire bank reconciliation procedure to a high degree. A certain amount of manual involvement is always required.

Automation of Robotic Processes
Robotic Process Automation was one of the hottest subjects in 2016 and is still making news in the business and finance press today (RPA).

In a nutshell, RPA is the use of computer software to automate and control rule-based processes without the need for human intervention.

According to this criteria, a system that uses RPA technology should be able to automate the entire end-to-end  reconciliation process without requiring any manual involvement.

Reasons for the Disparity Between the Bank Statement and the Accounting Records of the Company

The bank's ending cash balance and the company's ending cash balance are virtually always different.

•  The following are some of the causes behind the disparity:
• Cash and checks that have been received and recorded by the company but have not yet been registered on the bank statement are referred to as "deposits in transit."
• Checks that have been issued by the corporation to creditors but have not yet been processed are known as outstanding checks.
• Bank service fees: Banks charge fees from consumers' accounts for services rendered, however, these fees are typically minimal.
• Banks pay interest on some bank accounts, which is a source of revenue.
• NSF checks: When a customer deposits a check into an account but the issuer's account does not have enough money to cover the check, the bank deducts the check from the customer's account.
• The check is returned to the depositor as a non-sufficient funds check.
• Many businesses now employ specialized accounting software for reconciliation to cut down on the amount of effort and modifications required, as well as to enable real-time updates.

Terminology 

When dealing with reconciliation, you should be aware of the following terms:

• The deposit is currently in transit.

Cash and/or checks that have been received and documented by an entity but have yet to be registered in the bank's records where the funds are deposited.
If this happens at the end of the month, the deposit will not show up on the bank statement and will thus be a reconciling item in the bank reconciliation.

A deposit in transit occurs when a deposit arrives at the bank too late to be recorded that day, when the entity mails the deposit to the bank (in which case a mail float of several days can cause a delay), or when the money is not yet sent to the bank at all.

• Outstanding check

A check payment that has been recorded by the issuing entity but has not yet cleared the issuing entity's bank account as a cash deduction.

It does not appear on the month-end bank statement and is not a reconciling item in the month-end  reconciliation if it has not yet cleared the bank by the end of the month.

• NSF check

A check that the bank of the entity issuing the check refused to honor because the entity's bank account was insufficiently funded.

The term NSF stands for "not sufficient funding." A processing fee may be charged by the bank to the entity attempting to cash an NSF check. A fine will almost definitely be imposed by the bank on the company that issued the NSF check.

Most common Problems 

There are a few issues that come up frequently during the reconciliation that you should be aware of.

They are as follows:

• Checks that haven't been presented in a long time.

There will be a small number of checks that are not brought to the bank for payment for an extended period or are never presented for payment.

In the near term, treat them the same way you would any other uncleared check: retain them in your accounting software's uncleared checks column so they can be reconciled regularly.

In the long run, you should contact the payee to determine if they received the check; if they didn't, you'll have to invalidate it and issue them a new one.

• After a check has been voided, it is cleared by the bank.

If a check is uncleared for an extended time, as mentioned in the preceding special issue, you will most likely nullify the old check and issue a replacement check.

But what if the original cheque is cashed by the payee? If you had the check canceled with the bank, the bank should reject it when you present it.

If you didn't have the check void at the bank, you'll have to record it as a credit to the cash account and a debit to identify the cause for the payment (such as an expense account, an increase in a cash account, or decrease in a liability account).

To avoid double payment, invalidate the new check with the bank right away if the payee has not yet cashed it. Otherwise, you'll have to pursue the payee for the second check's reimbursement.

• Checks that have been deposited are returned.

In some situations, a bank will refuse to deposit a check, usually because it is written on a foreign bank account.

In this situation, you must reverse the original deposit entry, which was a credit to the cash account to reduce the cash balance, along with a debit (raise) in the accounts receivable account.

Another factor that could be generating issues is that the bank statement's coverage dates have changed, causing some items to be included or excluded. This situation should only happen if someone at the company requests that the bank change the account's closing date.

Reasons of difference book balance and bank balance

There are a few reasons for differences that arise while comparing the balances in the cash book and balances in the bank statement.

We look at each reason in brief detail below:

a) Due to timing

Between the time a transaction is entered in the books of account and the time it is registered by the bank, there is always a time lag.

For example, a cheque written is immediately entered in the cash book, but it is not recorded in the bank until it is presented for payment.

Similarly, a deposited check is instantly entered in the cash book, whereas the bank credits it once it has been cleared, i.e., the bank has collected the funds.

As a result, there is always a time lag between recording entries in the two books, namely the cash book and the bank statement or bank passbook. Even if the statement is prepared between the two dates, there will be a difference.

Such as:

• Cheques issued but not yet presented for payment
• Cheques deposited into the bank but not yet cleared

b) Transactions recorded by bank

Banks sometimes keep track of transactions that the account holder is unaware of. After obtaining the bank statement or bank passbook, the account holder records it in his or her books of accounts.

Interest charged or allowed, bank fees, and balance transfers from one account to another are just a few examples. After obtaining the bank statement or passbook, the account holder learns about it.

The disparity between the balance in the cash book and the balance in the bank statement or passbook is caused by such transactions in the bank statement.

• Interest credited by the bank but not recorded in the cash book
• Bank charges and interest charged by the bank but not recorded in the cash book
• Interest and dividends collected by the bank
• Direct payments by the bank
• Direct deposits into the bank by a customer
• Dishonor of a bill discounted with the bank
• Bills are collected by the bank on behalf of the customer.

c) Errors

The bank or the account holder may make mistakes, resulting in discrepancies in the balances of the cash book and the bank statement or passbook.

The disparity between the balance on the bank statement and the balance on the cash book might be caused by errors or omissions in the cash book.

For example, an entity may report bank deposits or withdrawals improperly in another accounting ledger, or it may record the entry with an incorrect amount. A bank deposit or withdrawal can sometimes be completely ignored in the cash book.

Depending on the nature of the error or omission, the sum reported on the bank statement will be higher or lower than the balance shown in the cash book.

Another example, a false balance could be carried forward, a transaction could go unnoticed in the cash book, or a transaction could be recorded incorrectly in an account.

Before preparing a BR, the disparity must be removed by changing the company's cash book.

Preparation of Bank Reconciliation Statement (BRS) using the balance in books of accounts

1) Favorable

If the statements started with a debit balance, i.e., favorable balance as per cash book, each entry that is causing the differences is analyzed to ascertain its effect on cash book balance, i.e., whether it has led to increase or decrease in the cash book balance.

Entries that have led to decreased cash book balance are added to the balance as per the cash book.

Similarly, entries of differences that have led to increased cash book balance are deducted from the balance as per the cash book.

Example

Scenario: On June 30, 2015, the bank column of the cash book showed a debit balance of $49,000. A credit balance of $37,400 was shown on the bank statement or passbook. The following differences were discovered when the entries in the cash book and pass book were compared:

1. Shyam's $9,000 and Mohan's $15,000 cheques were deposited but not collected until June 30, 2015.
2. A debtor, Ramesh, put an $8,000 check immediately into the bank.
3. The bank agreed to pay $500 in interest.
4. Radhe Shyam received a $10,000 check, however, it was not delivered for payment.
5. The bank deducted $6,000 from the account, which was an insurance premium paid per standing instruction.
6. The bank debited the account by $100 for bank fees.

You are required to prepare a BR statement as of 30th June, 2015.

Solution

BRS

As on 30th June, 2015. 

2) Unfavorable

If the statement started with a credit balance, i.e., unfavorable or bank overdraft balance as per cash book, each entry causing difference is analyzed to ascertain its effect on cash book balance, i.e., whether it has led to increase or decrease in the cash book balance.

Entries that have led to an increased overdraft cash book balance are deducted from the overdraft balance as per the cash book.

Similarly, entries of differences that have led to decreased overdraft balance as per cash book balance are added to the overdraft balance as per the cash book.

These amounts when added or deducted from the cash book balance, give the balance as per bank statement or bank pass book.

Example

Scenario: Determine the balance that will appear in the bank passbook on March 31, 2015, using the following information:

According to the cash book on March 31, 2015, the bank overdraft was $63,400.

1. Interest on overdraft for the six months ending March 31, 2015, was $1600 in the passbook.
2. Bank costs of $300 were deducted from the passbook for the period mentioned.
3. Cheques issued but not cashed by March 31, 2015, totaled $11680.
4. Cheques totaling $21700 were paid into the bank but not cleared before March 31, 2015.
5. The bank collected $12000 in interest on investments and credited it to the passbook.

Solution

BRS

As on 31th March, 2015. 

Preparation of Bank Reconciliation Statement (BRS) using the balance as per Bank Statement

1) Favorable

If the statements started with a credit balance, i.e., favorable balance as per bank statement or bank passbook, each entry causing difference is analyzed to ascertain its effect on passbook balance, i.e., whether it has led to increase or decrease in the balance as per bank statement or bank passbook.

Entries that have led to an increased bank statement or bank passbook balance are deducted from the bank statement or bank passbook balance.

Similarly, entries that have led to the decreased bank statement or bank passbook balance are added to the bank statement or bank passbook balance.

Example

Scenario: On June 30, 2016, produce a BR statement based on the following information.

The bank statement indicates a $9,214 positive balance.

1. On June 29th, the bank made an error and credited an amount of $1,650.
2. Certain checks worth $4,500 issued before June 29th were not cleared.
3. The cash book did not record a $950 hire purchase payment made by standing order.
4. A receipt was recorded in the cash column of the cash book for $600 cheques that were received, deposited, and credited by the bank.
5. Other $8,500 cheques were deposited in June, but only $6,000 cheques were cleared by the bankers.

Solution

BRS

As on 30th June, 2016. 

2) Unfavorable

If the statement started with a debit balance, i.e., unfavorable or overdraft balance as per bank statement or bank passbook, each entry causing difference is analyzed to ascertain its effect on cash book balance, i.e., whether it has led to increase or decrease in the balance as per bank statement or bank passbook.

Entries that have led to an increased overdraft bank statement or bank passbook balance are deducted from the overdraft bank statement or bank passbook balance.

Similarly, entries that have led to the decreased overdraft bank statement or bank passbook balance are added to the overdraft bank statement or bank passbook balance.

The adjustments of the above leads to the balance as per cash book.

Example 

Scenario: Taneja and Co.'s bank passbook showed an overdraft of $7,700 on December 31, 2009. Prepare a BR statement based on the following information.

1. Cheques issued before December 31, 2009, that had not yet been presented for payment totaled $3,500.
2. Cheques have been deposited in the bank, however, a check for $2,600 is yet to be collected.
3. The interest on a $554 loan, which was directly deducted by the bank, did not show up in the cash book.
4. The customer's direct deposit of $4,800 was recorded in the passbook but not in the cash book.

Solution

BRS

As on 31st December, 2009.

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources:

• Retained Earnings
• Fraud Triangle
• Cost of Goods Manufactured (COGM)
• Marginal Cost Formula
• Accounts Receivable Turnover Ratio