Bank Reconciliation:

When your business begins operating you will be required to develop monthly bank reconciliations. A bank reconciliation is the process of verifying your cash balance in your business's accounting records (check book) to that of the cash balance in your bank account. Each month your bank will develop what is known as a bank statement. Each bank's bank statement is usually different in appearance, however, the information contained within is standard. The following information is contained within all bank statements;

• 1. The cash balance in your bank account at the beginning of the month.
  2. Cash deposits and other cash items added to your bank account during the month.
  3. Cancelled checks and other cash items deducted from your bank account during the month. Cancelled checks are checks that have been processed by the bank and therefore deducted from your bank account.
  4. The cash remaining in your bank account at the end of the month.

Most banks will mail your bank statement to your company's place of business. Other banks will require you to pick up your bank statement each month. The method of receiving your bank statement is not important, what is important, however, is that you perform a bank reconciliation each month. Remember a bank reconciliation, reconciles your businesses' ending monthly cash balance (from your internal accounting records - check book) with the ending cash balance in your bank account.

Why do you need to reconcile your bank account?

Many times the ending cash balance in your internal accounting records is different from that in your bank account. Therefore, in order for to measure the accuracy of your accounting records and the accuracy of your bank, it is important to complete a bank reconciliation. Lets now look at several reasons why your internal accounting records and your bank statement may show a different or conflicting monthly ending cash balance.

OUTSTANDING CHECKS
Outstanding checks are checks that you have written to others for purchases, for example, that have not been received by the bank for processing. In other words, if your bank has not received a check in which you wrote, they can't record it on your monthly bank statement.

UNRECORDED DEPOSITS
Many companies make deposits during the night when their bank is closed. These deposits generally are not recorded by the bank until the following business day. Therefore, if you were to make a cash deposit on the last day of the month, when the bank was closed, the deposit would not appear on the current month's bank statement. If you are like most businesses, your internal accounting records would show a deposit made on the final day of the month. In other words, you internal accounting records would show the deposit while the bank's records would not show the deposit.

NSF CHECKS
NSF stands for Non Sufficient Funds. A customer writes a check to your business, only later to discover that the customer did not have enough money in his or her bank account to cover the amount of the check. Not knowing that the check is an NSF check, you deposit the check and record it as cash made on a sale. The bank, on the other hand, will soon declare the check NSF and deduct the amount of the check from your bank account. In addition, the bank, in most cases, will charge your bank account an NSF fee. Your monthly bank statements will show all NSF checks and NSF charges that have been deducted from your account. In most cases, you will be unaware of any NSF items until you receive your monthly bank statement.

SERVICE CHARGES & OTHER BANK CHARGES
All banks will charge you a fee for each check your business writes and for preparing your monthly statements. In addition, banks usually charge your banking account for printing your businesses' checks. You will not know these actual charges until your bank statement arrives. Therefore, such charges will not appear in your internal accounting records. Note: Do not attempt to estimate the bank's service charges or other related charges. Wait until you receive your monthly bank statement.

ERRORS
Occasionally businesses and banks make errors or mistakes when conducting their day to day operations. Although computers have reduced the number of errors, mistakes still occur. Errors and mistakes can only be detected by preparing a monthly bank reconciliation. The sooner errors can be detected, the sooner they can be rectified.

Steps in Reconciling your Monthly Bank Statement:

• 1. Compare the deposits recorded on the bank statement with those recorded in your business's accounting records. Determine which deposits are correct and list all errors or unrecorded deposits.
  2. Look at all other credits shown on the bank statement and determine if those items have been recorded in your internal accounting records. Make a list of the items that appear on your bank statement but do not appear in your internal accounting records.
  3. Verify all cancelled checks have been recorded on your bank statement. Be sure the amounts shown on the cancelled checks are the same as those shown on your bank statement and in your internal account records. List any differences or errors.
  4. Make sure the outstanding checks from your last month's bank statement has been received by the bank and are shown on your current months bank statement. (Note: outstanding checks become cancelled checks only when the bank has received and processed them). List all outstanding checks that still remain outstanding from the previous month's bank statement.
  5. Compare all checks that have been written since the prior month's bank statement with the checks that appear on the current month's bank statement. Make a list of those checks that you have written but don not appear on your current month's bank statement.
  6. Compare all other charges (debits) to your bank statement. Search your bank statement for items such as service charges, printing of checks, NSF charges, and other charges that may apply to your particular business and situation. Make a list of all items (charges) that appear on your bank statement but do not appear in your internal records.
  7. The seventh step attempts to reconcile your bank statement with your ending monthly cash balance (appearing in your internal accounting records - check book). To assist you with this task, please refer to the example which follows the eighth and final step.
  8. The final step in reconciling your bank balance is to make any adjustments to your internal accounting records for bank charges, service charges, NSF checks and charges, and other fees or cash inflows that relate to your particular business. If you discover any errors during the bank reconciliation process, be sure to determine whether the error is yours or the banks. If it is your accounting error make the necessary changes to your internal accounting records. If, however, you feel the bank had made an error when preparing your bank statement, call them to resolve the problem. Remember, it is your responsibility, as a business owner, to discover any errors and take the necessary action to correct those errors as soon as possible.

Below illustrates an example of how to prepare a bank reconciliation. The example should provide you with a general format to use when developing your reconciliation. Most banks, however, provide a bank reconciliation outline on the back of each monthly bank statement. This allows you to simply fill in the appropriate boxes. Whatever format you use, however, you must fully understand the relationship among the numbers and the items presented on your bank statement. The following example will assist you in understanding these relationship.

Example of a Bank Reconciliation:

The following assumptions are required for our illustration of a bank reconciliation.

• 1. The Paper Company is preparing a bank reconciliation for the month of May 31, 2008.
  2. The current date is June 5, 2008. - usually a business does not receive its bank statements until early into the following month.
  3. The Paper Company's bank statement (prepared by the bank) shows an ending cash balance of $4,510. In other words, on May 31, 2008 the actual amount of cash in the company's bank account was $4,510
  4. The company's accounting records (checkbook) show its cash balance on May 31, 2008 is not $4,510 but rather it is $1,575
  5. On May 31, 2008, The Paper Company deposited a check in its bank's night depository. The amount of the deposit was $250. This deposit did not appear on the company's bank statement.
  6. The bank statement shows a credit item for $2.00 for interest earned on the average monthly cash balance in The Paper Company's bank account.
  7. The bank statement reveals that The Paper Company had ordered and received additional checks. The cost of these checks were $65.00. The bank automatically removed the $65.00 from the company's banking account. The company, however, did not record this amount in their internal accounting records since it was unaware of the actual total cost of printing and shipping the additional checks. (Note: it is always a good idea to delay recording the cost of printing checks until your bank statement arrives).
  8. On May 10, 2008, The Paper Company made a sale to Bob Smith for $500. Bob wrote a check for the purchase, only to discover he had insufficient funds in his checking account. As a result, the Paper Company's May 31, 2008 bank statement shows a NSF check for the amount of $500. In addition, the bank charged the company a $15.00 fee for depositing an NFS check ( Note: the internal accounting records of the company would show this deposit as being illegitimate. As well, their accounting records would not show the NSF fee charged by the bank).
  9. The bank charged the company's banking account a service fee amounting to $52.00 for processing checks and for preparing the May's bank statement.
  10. The Paper Company compared their cancelled checks ( sent with the bank statement) with their internal accounting records (their checkbook for example) and discovered two checks remained outstanding. Check # 4201 for $1,500 and check # 4205 for $2,315. Note: The Paper Company wrote these checks and recorded them in their internal accounting records, thus reducing their amount of cash. The bank, however, did not receive the checks for processing by the time the bank statement had been prepared.

Now lets develop a bank reconciliation for The Paper Company for the month ending May 31, 2008.

The Paper Company
Bank Reconciliation
For month ending May 31, 2009

As per Internal Records (Books):                                                    

Cash Balance from check book                                 $1,575                

ADD:                                                                     
Interest earned from checking account                              2       

SUBTRACT:                                                                             
NSF Check                                                                 (500)               
NSF Charge                                                                 (15)              
Bank Service Charges                                                   (52)            
Cost of Printing Checks                                                 (65)

Adjusted Check Book cash balance on May 31                 $    945      

 As Per Bank Statement:

Cash Balance on Bank Statement                              $4,510

ADD:
Deposit on May 31, 2008                                              250

Outstanding checks 
   Check  #4201                                                      (1,500)
   Check # 4205                                                      (2,315)

Adjusted Bank Statement balance on May 31               $     945

 
Net Difference  ($945 - $945)                                $    0.00

Bank Reconciliation Analysis:

Lets look at each column separately. The first column represents additions and subtractions to the Paper Company's records.

CASH BALANCE
The accounting records of the company shows their cash balance as of May 31, 2008 is $1,575.

INTEREST EARNED
As indicated in the bank statement, the company had earned $2.00 interest on the average monthly money they had in their bank account for the month of May (don't try to calculate how we arrive at the interest earned - we are assuming $2.00 was earned). Since the Paper Company was on aware of the amount of interest earned during the month, they wouldn't have added the interest amount to their internal accounting records.

NSF CHECK FROM BOB SMITH
The Paper Company was unaware that Bob Smith's $500 check had bounced and was declared NSF by the bank. In other words, the company increased its internal cash records by $500 after it had deposited the check into the bank. In essence, $500 was not transferred from Bob's account to The Paper Company's account. Therefore, $500 has to be deducted from the company's accounting records. By the way, The Paper Company will undoubtedly contact Bob in an attempt to collect the money owed to them. Collection of these funds and the process of a bank reconciliation are two separate aspects of a business's operations and they should not be confused with one another.

OTHER BANK CHARGES
Banks charge businesses several fees for services in which they provide. These fee are automatically taken out of a business's bank account. The business does not know of such charges until a bank statement is issued. Therefore, if a business does not know the amount for such bank charges, they would be unable to account for them in their internal records. Thus, such charges must be deducted for the company's ending cash balance as of May 31, 2008. The amounts to be deducted include the NSF charge of $15, bank service charges of $52, and $65 for printing additional checks for the company.

Now lets look at the right column of the Bank Reconciliation; IE from the Bank's perspective.

ENDING CASH BALANCE ON BANK STATEMENT:
According to the bank, the Paper company has $4,510 in its checking account as of May 31, 2008. This amount is not correct since the bank didn't include a deposit that was made by the company on May 31 nor does the bank realize the Paper Company wrote two checks for $1,500 and $2,315.

DEPOSIT MADE ON MAY 31
The deposit made on May 31 will be added to the company's banking account after May 31, and thus will appear on the following month's bank statement (June 30, 2008). This ultimately decreases the amount of cash the company has in its bank account.

OUTSTANDING CHECKS
The outstanding checks must be subtracted from the bank statement. This ultimately reduces the bank statement's ending cash balance and paints a true picture of how much money the Paper Company has in its bank account as of May 31, 2008; namely $ 945.

THE FINAL STEP:

After the bank statement has been reconciled, you must make all necessary adjustments to your internal accounting records. Such adjustments would include;

• • Record all bank service charges;
  • Record all NSF charges (if any);
  • Record all charges associated with printing new checks (if any);
  • Record all interest earned; and
  • Record or adjust any NSF customers;

Note: an adjustment is not required for any outstanding checks. Nor are you required to make any adjustments for unrecorded bank deposits that have been omitted from your bank statement.

IMPORTANT NOTES TO REMEMBER

• 1. Bank Reconciliations should be conducted on a monthly bases (as soon as you receive the bank statement).
  2. You will receive your bank statement sometime in the following month (usually the 10th or 15th day of the following month).
  3. Personal bank statements are separate from your business's bank statement.