How to Do a Bank Reconciliation Step-by-Step

Bank reconciliation is a fundamental accounting process that ensures the accuracy of a company’s cash records. It involves comparing the cash balance in a company’s internal accounting records with the balance reported by the bank on a bank statement. This comparison helps identify and explain any differences, providing a true picture of the company’s available cash. Performing regular bank reconciliations is important for maintaining financial control, detecting potential errors or fraudulent activities, and ensuring financial statements accurately reflect the company’s cash position. The process serves as a crucial internal control, safeguarding assets and verifying financial data.

Information Needed for Reconciliation

Before beginning the reconciliation process, specific financial documents must be gathered for the period under review. These include the company’s bank statement, its internal cash ledger, and the bank reconciliation statement from the previous period. The bank statement provides an external record of all transactions processed by the bank, such as deposits, withdrawals, electronic funds transfers, and bank-initiated charges or credits.

The company’s internal cash ledger, often maintained through accounting software or manual records, details all cash inflows and outflows as recorded by the business. Comparing the bank’s record against the company’s own record is essential for reconciliation. The ending balance from the prior month’s bank reconciliation statement serves as the starting point for the current period’s reconciliation, ensuring continuity.

Reconciling Transactions

Bank reconciliation involves systematically comparing transactions listed on the bank statement to entries in the company’s cash ledger. This process begins by comparing the ending cash balance reported on the bank statement and the ending cash balance from the company’s internal records. Every deposit shown on the bank statement should be matched against a corresponding deposit entry in the company’s ledger. Unmatched deposits in the ledger might indicate “deposits in transit,” which are amounts the company has recorded but the bank has not yet processed.

Similarly, all withdrawals, checks, and other payments listed on the bank statement are compared to entries in the company’s cash ledger. Each cleared check or electronic payment should be ticked off in both records. Any checks or payments recorded in the company’s ledger that do not appear on the bank statement are considered “outstanding checks,” meaning they have been issued but have not yet cleared the bank. The reconciliation process also identifies transactions initiated by the bank that the company may not have recorded yet, such as bank service charges, interest earned, or direct debits for recurring payments. These items appear on the bank statement but are absent from the company’s initial ledger.

Making Necessary Adjustments

Once all matching transactions have been identified and non-matching items noted, adjustments are made to the company’s cash account to bring its balance into agreement with the bank’s records. Adjustments are typically made to the company’s internal books, as the bank’s statement is generally considered the authoritative external record of cash transactions. Items that increase the company’s cash balance, such as interest earned or notes collected by the bank, are added to the ledger.

Conversely, items that decrease the company’s cash balance must be subtracted. This includes bank service charges and non-sufficient funds (NSF) checks. Each of these adjustments necessitates a journal entry in the company’s accounting system to update the cash account and the related expense or revenue accounts.

Handling Common Discrepancies

Many discrepancies encountered during bank reconciliation stem from timing differences or errors. Outstanding checks are a common example, representing checks the company has written and recorded but which have not yet been presented to the bank for payment. These reduce the company’s cash balance in its ledger but not yet in the bank’s records. Conversely, deposits in transit are funds the company has received and recorded, but the bank has not yet processed.

Bank service charges and interest earned are frequent items that appear on the bank statement before the company is aware of them. These require the company to record the expense or revenue to match the bank’s records. Errors can occur on either side; errors in the company’s own books (such as recording an incorrect amount or omitting a transaction) are more frequent. Non-sufficient funds (NSF) checks, also known as bounced checks, are another common discrepancy where a customer’s check to the company is returned by the bank due to insufficient funds in the customer’s account, requiring the company to reverse the original deposit and often pursue payment directly from the customer.