Preparing a Bank Reconciliation

In accounting, cash includes coins; currency; undeposited negotiable instruments such as checks, bank drafts, and money orders; amounts in checking and savings accounts; and demand certificates of deposit. A certificate of deposit (CD) is an interest-bearing deposit that can be withdrawn from a bank at will (demand CD) or at a fixed maturity date (time CD). Only demand CDs that may be withdrawn at any time without prior notice or penalty are included in cash. Cash does not include postage stamps, IOUs, time CDs, or notes receivable.

Most companies use checking accounts to handle their cash transactions. The company deposits its cash receipts in a bank checking account and writes checks to pay its bills. Keep in mind, a bank account is an asset to the company BUT to the bank your account is a liability because the bank owes the money in your bank account to you.  For this reason, in your bank account, deposits are credits (remember, liabilities increase with a credit) and checks and other reductions are debits (liabilities decrease with a debit).

The bank sends the company a statement each month. The company checks this statement against its records to determine if it must make any corrections or adjustments in either the company’s balance or the bank’s balance.   A bank reconciliation is a schedule the company (depositor) prepares to reconcile, or explain, the difference between the cash balance on the bank statement and the cash balance on the company’s books. The company prepares a bank reconciliation to determine its actual cash balance and prepare any entries to correct the cash balance in the ledger.

Bank Statement

A bank statement is a record of your bank account transactions, typically for one month, prepared by the bank.  A bank statement looks like this:

 First Bank
 Virginia Beach, VA
Customer: My Company
1111 College Way  Statement Date September 30
Virginia Beach, VA
September 1 Beginning Balance  $16,850
+ Deposits and other Credits $22,367
– Checks and other Debits ($11,822)
September 30 ENDING BALANCE  $27,395
Deposits and Other Credits
1-Sep $1,500 25-Sep $10,000
15-Sep $2,514 29-Sep $4,500
16-Sep $350 Interest $3
20-Sep $500 CM $3,000
Total Deposits $22,367
Checks and Other Debits
2001 9/1 $750
2002 9/5 $980
2003 9/5 $275
2005 9/10 $5,843
2006 9/15 $333
2007 9/21 $480
2010 9/28 $2,571
2011 9/28 $235
SC 9/30 $5
NSF 9/18 $350
Total Checks $11,822
CM is for collection of a note. Note was for $3500 but bank charged a $500 collection fee.
SC is for bank service charges.
NSF is for customer payment that could not be funded due to Non Sufficient Funds.

This bank statement is an example of the transactions that occurred during the month.  In the Deposit and credits section, you see the deposits made into the account and a CM which is a collection of a note (see note at bottom of statement) and interest the bank has paid to your account.  In the Checks and debits section, you see the individual checks that have been processed by the bank and you also see SC for a bank service charge on your account as well as a NSF (stands for Non Sufficient Funds) and means we made a deposit from a customer but the customer did not have enough money to pay the check (bounced check).

Company’s Records

The company’s records (or books) refers to the general ledger posting and can be in the form of cash disbursement journal, cash receipt journal, cash general ledger postings or lists of cash transactions.  An example of a cash listing is:

My Company’s Records
Sept 1 Cash Balance $16,850
1-Sep $1,500
14-Sep $2,514
15-Sep $350
20-Sep $500
24-Sep $10,000
28-Sep $4,500
30-Sep $6,700
Total Deposits $26,064
2001 1-Sep $750 Payroll
2002 5-Sep $980 Rent
2003 5-Sep $275 Supplies
2004 8-Sep $1,000 Inventory
2005 10-Sep $5,483 Equipment
2006 15-Sep $333 Supplies
2007 20-Sep $480 Inventory
2008 20-Sep $650 Payroll
2009 22-Sep $200 Postage
2010 28-Sep $2,571 Sales Commissions
2011 28-Sep $235 Utilities
2012 30-Sep $5,500 Equipment
Total Checks ($18,457)
Sept 30 Cash Balance       $24,457

The bank balance on September 30 is $27,395 but according to our records, the ending cash balance is $24,457.  We need to do a bank reconciliation to find out why there is a difference.

Bank Reconciliation

A bank reconciliation compares the bank statement and our company’s records and reconciles or balances to two account balances.  How does it do this?  There are several items of information we can get by comparing the bank statement to our records — any thing that doesn’t match or doesn’t exist on both places is called a reconciling item.  A reconciling item will be added or subtracted to the bank or book side of the reconciliation.  The following table will give you some examples of how these reconciling items apply in a bank reconciliation:

Bank Reconciliation  
Ending Cash Balance per Bank Ending Cash Balance per Books
Add: Deposits in Transit Add: Note Collections
Add: Interest
Subtract: Outstanding Checks Subtract: Customer NSF
Subtract: Bank Service Fees
Add/Subtract Bank errors Add/Subtract Book errors
= Adjusted Bank Balance = Adjusted Book Balance

Deposits. Compare the deposits listed on the bank statement with the deposits on the company’s books. To make this comparison, place check marks in the bank statement and in the company’s books by the deposits that agree. Then determine the deposits in transit. A deposit in transit is typically a day’s cash receipts recorded in the depositor’s books in one period but recorded as a deposit by the bank in the succeeding period. The most common deposit in transit is the cash receipts deposited on the last business day of the month. Normally, deposits in transit occur only near the end of the period covered by the bank statement. For example, a deposit made in a bank’s night depository on May 31 would be recorded by the company on May 31 and by the bank on June 1. Thus, the deposit does not appear on a bank statement for the month ended May 31. Also check the deposits in transit listed in last month’s bank reconciliation against the bank statement. Immediately investigate any deposit made during the month but missing from the bank statement (unless it involves a deposit made at the end of the period).

Paid checks. If canceled checks (a company’s checks processed and paid by the bank) are returned with the bank statement, compare them to the statement to be sure both amounts agree. Then, sort the checks in numerical order. Next, determine which checks are outstanding. Outstanding checks are those issued by a depositor but not paid by the bank on which they are drawn. The party receiving the check may not have deposited it immediately. Once deposited, checks may take several days to clear the banking system. Determine the outstanding checks by comparing the check numbers that have cleared the bank with the check numbers issued by the company. Use check marks in the company’s record of checks issued to identify those checks returned by the bank. Checks issued that have not yet been returned by the bank are the outstanding checks. If the bank does not return checks but only lists the cleared checks on the bank statement, determine the outstanding checks by comparing this list with the company’s record of checks issued. Sometimes checks written long ago are still outstanding. Checks outstanding as of the beginning of the month appear on the prior month’s bank reconciliation. Most of these have cleared during the current month; list those that have not cleared as still outstanding on the current month’s reconciliation.

Bank debit and credit memos. Verify all debit and credit memos on the bank statement. Debit memos reflect deductions for such items as service charges, NSF checks, safe-deposit box rent, and notes paid by the bank for the depositor. Credit memos reflect additions for such items as notes collected for the depositor by the bank and wire transfers of funds from another bank in which the company sends funds to the home office bank. Check the bank debit and credit memos with the depositor’s books to see if they have already been recorded. Make journal entries for any items not already recorded in the company’s books.

Bank Errors.  Sometimes banks make errors by depositing or taking money out of your account in error.  You will need to contact the bank to correct these errors but will not record any entries in your records because the bank error is unrelated to your records.

Book Errors. List any Book errors. A common error by depositors is recording a check in the accounting records at an amount that differs from the actual amount. For example, a $47 check may be recorded as $74. Although the check clears the bank at the amount written on the check ($47), the depositor frequently does not catch the error until reviewing the bank statement or canceled checks.

Deposits in transit, outstanding checks, and bank service charges usually account for the difference between the company’s Cash account balance and the bank balance.

Watch the following video example and then we will continue by looking at bank statement and records of MY COMPANY (click My Company) for a printable copy.

After comparing the bank statement and records of My Company, you should have identified the following reconciling items:

  1. Deposit in transit dated 9/30 for $6,700.
  2. Outstanding checks #2004, 2008, 2009, 2012.
  3. Interest paid by the bank $3.
  4. Note collected by bank $3500 less $500 fee
  5. Bank service charge $5
  6. Customer NSF $350
  7. Error in Check #2005 correctly processed by bank as $5,843 but recorded in our records as $5,483.  This is a difference of $360 (5,843 – 5,483) and since we did not take enough cash we need to reduce cash by $360.

Using the chart provided above and the reconciling items, the bank reconciliation would appear as follows:

My Company      
Bank Reconciliation      
September 30      
Ending Bank Balance $27,395 Ending Book Balance $24,457
Add: 9/30 Deposit 6,700 Add: Interest 3
Note Collected 3,000  3,003
O/S Ck #2004  1,000 Subtract:
# 2008 650 Bank Fee 5
# 2009  200 Customer NSF 350
# 2012  5,500 CK 2005 Error  360
– 7,350 – 715
Adjusted Bank Balance  $26,745      Adjusted Book Balance   $26,745  

When the bank and book are in agreement, you are almost finished.  On the bank side of the reconciliation, you do not need to do anything else except contact the bank if you notice any bank errors.  On the book side, you will need to do journal entries for each of the reconciling items.

Adjusting Entries for Book side Reconciling Items

The good news is every entry will contain CASH.  If we added to the book side in the bank reconciliation, we will DEBIT cash.  If we subtracted to the book side in the bank reconciliation, we will CREDIT cash.  The journal entries for the books side of My Company are:

Debit Credit
(1) Cash 3
       Interest Revenue 3
To record interest received from bank.  
(2) Cash 3,000
Collection Fee 500
       Notes Receivable 3,500
To record collection of note and fee by bank.  
(3) Bank Service Fees 5
       Cash 5
To record bank fees charged by bank.  
(4) Accounts Receivable 350
       Cash 350
To record Customer NSF from the bank.  
(5) Equipment 360
       Cash 360
To correct recording error on check #2005.  

These entries are posted to the general ledger accounts.  The cash general ledger account would be:

Account: Cash Debit Credit Balance
Beginning Balance 16,850
Deposits  26,064 42,914
Checks   18,457 24,457
(1) Interest earned 3 24,460
(2) Note collected 3,000 27,460
(3) Bank Service Fee 5 27,455
(4) Customer NSF 350 27,105
(5) Error Correction 360 26,745

The ending cash balance on the general ledger is reconciled to the adjusted bank statement balance.

When a company maintains more than one checking account, it must reconcile each account separately with the balance on the bank statement for that account. The depositor should also check carefully to see that the bank did not combine the transactions of the two accounts.

Within the internal control structure, segregation of duties is an important way to prevent fraud. One place to segregate duties is between the cash disbursement cycle and bank reconciliations. To prevent collusion among employees, the person who reconciles the bank account should not be involved in the cash disbursement cycle. Also, the bank should mail the statement directly to the person who reconciles the bank account each month. Sending the statement directly limits the number of employees who would have an opportunity to tamper with the statement.

For a different perspective and chance to practice simple bank reconciliations, click Banking Practice.