RECONCILIATION ACCOUNTING: Definition, Process, Types, and Example

Bank reconciliation accounting process and example

Every business functions well when there is a proper accounting of both profit and loss, as well as expenditures. This record can reveal whether your firm is improving or failing, and what changes should be made and avoided. You might have heard about reconciliation accounting and wondered what it might mean and also why it is necessary. Reconciliation accounting aids in ensuring that your company’s accounting is accurate by explaining discrepancies between two financial records or account balances. So, in this article, we’ll cover all the things you need to know about reconciliation accounting, the reconciliation accounting process, bank reconciliation accounting, and an example of reconciliation accounting.

Reconciliation Accounting

Reconciliation accounting is the process of comparing two sets of financial records to ensure they are accurate and consistent. It’s critical to balance your financial accounts regularly to make sure you know how much money you have and also where it’s going. It’s also best to find out about any overdrafts, overcharges, or fraud situations as soon as possible. This may help you save money in the long run. If you hire an accountant, balancing your accounts will assist them in preparing accurate financial statements. Account reconciliation is similarly crucial if you own a business because it ensures that your balance sheet is accurate.

Companies use reconciliation to check the accuracy of their income statements and cash flow statements. It is also effective for maintaining an error-free personal bank account. Individuals may reconcile their checkbooks and credit card accounts with their bank statements. They can keep a check on any fraudulent transactions or errors made by financial institutions.

 Here, credit and debit ledgers are kept and frequently updated with records. For example,

AccountDebitCredit 
Cash $700
Tractor $8000
Revenue$600
Account receivable$1000

If in any way, you fail to finish your account reconciliations promptly, you risk having misstated accounts and also making financial decisions that are harmful to your firm.

Reconciliation Accounting Types

Five main types of reconciliation accounting are used in day-to-day business. They are,

  • Bank reconciliation
  • Vendor reconciliation
  • Customer reconciliation
  • Inter-company reconciliation
  • Business-specific reconciliation

#1. Bank Reconciliation

This is also known as bank statement reconciliation; it is the process of comparing the bank balance in a business book with that of the bank statement of account, also known as the bank reconciliation statement.

#2. Vendor Reconciliation

This is the process of reconciling a vendor’s account with the statement account provided by the vendor, also known as the vendor statement. It is necessary to reconcile a vendor’s account with the company’s account. It helps a company to determine the balance payable to a vendor’s account and the vendor’s outstanding amount. Vendor reconciliation ensures that there are no obligations or conflicts that will arise between the company and a vendor as regards the charges, inventory, or services rendered by the vendor to the company.

#3. Customer Reconciliation

This is a process of comparing outstanding customer balances or bills to the accounts received as recorded in the company’s general ledger. Customer reconciliation, or receivable reconciliation, enables a company to determine a customer’s outstanding balance by comparing the invoices to the accounts received as entered in its general ledger. The customer reconciliation statement serves as verification that the company’s financial statements are accurate. It also helps in the discovery of any errors or discrepancies in a client’s accounting.

#4. Inter-company Reconciliation

This is a type of reconciliation that exists between companies as a legal entity or under a parent company. It can also be between company branches. It is a process by which a parent firm consolidates all of its subsidiaries’ general ledgers to remove intercompany transactions. The system detects probable inconsistencies across subsidiaries due to invoicing errors and other transactions like stock transfers, vendor payments, expenses, collection, loans, and services rendered by one company to another.

#5. Business-specific Reconciliation

This is a process reconciliation used in any business to compare the profit and loss account and other accumulated expenses that happened during a particular period in a business. This reconciliation statement should be prepared by every business that has any type of inventory to match the balances on the cost of goods and also the amount sold to determine the profit and loss generated in that period of the business. In the meantime, it can be monthly or yearly. An example of this reconciliation accounting is:

Cost of goods sold = Opening Stock + Purchases – Closing Stock

Or

Cost of goods sold = Sale – Profit

The results of these two techniques of calculation should be the same. Hence, the records will be examined to determine the cause of the imbalance.

There are also types of Reconciliation based on the balance sheet. They include:

  • Cash accounts using bank statement reconciliations
  • Cash equivalents
  • Accounts receivable
  • Inventory
  • Fixed assets and accumulated depreciation
  • Prepaid assets
  • Intangible assets and amortization
  • Accounts payable
  • Accrued liabilities
  • Income tax liabilities
  • Notes payable (short-term and long-term components)
  • Retained earnings
  • Capital accounts

Reconciliation Accounting Example

The table below represents an example of a balance sheet used as a reconciliation accounting report (showing the asset input amount in dollars and liabilities cost paid in dollars).

                Asset                Amount ($)
            Fixed Assets
Net fixed assets                                               300
                Investments
Machine investment                                              500
  Current assets, loans, and advances
Inventories                                               200
Prepaid expenses                                              350
Receivables                                              150
            Total                                              1500
             Liabilities                    Amount ($)
capital stock
Equity                                            300
Preference                                            200
Loan                                            400
Current liabilities & provisions
Trade creditors                                        200
Provisions                                        400
Total                                         1500

Reconciliation Accounting Process

The first step is to examine the general ledger’s trial balance report to check that the debits and credits are equivalent. If the debit column’s balance does not match the credit column, then, calculate the difference to get an estimate of how much the difference is.

Secondly, examine each account’s balance in the trial balance report to check if the business is reasonable. Asset accounts, for example, should have a credit balance. A debit balance should be present in liability accounts. If an account that should have a debit balance instead has a credit balance, you should pull that account’s activity and examine each transaction to uncover the issue.

Thirdly, compare each account’s transactions to the account’s journal entry records. Hence, ensure that you have a record of each transaction, that it was appropriately recorded, and that the supporting documentation is correct.

Finally, check the bank statement transactions against the cash account in the ledger to ensure that your cash transactions and ledger statements are both accurate.

Bank Reconciliation Accounting

Bank reconciliation is the most common of all reconciliations done in a business. It is also known as bank statement reconciliation.

Bank reconciliation accounting is the process of checking the bank balance in a business book of an account by comparing it to the bank’s statement of the account (called the bank reconciliation statement). Many firms use bank reconciliation as an internal control to ensure data integrity between their bank records and their official records. Each transaction on the bank statement is compared to the company’s internal records (usually the cash account) to ensure that they are the same.

There are many issues that might lead to record mismatches, for example

  • Cheques issued have not been given to the bank, or a cheque has been dishonored by the bank.
  • A banking transaction has not yet been recorded in the entity’s books (for example, credit received, bank fees, or penalties).
  • Either the bank or the company entered records incorrectly.

Bank Reconciliation Process

To reconcile your bank statement with your business record, you will have to compare your cash balances on your business record with the corresponding balance in your bank account. Bank reconciliation accounting is a process done gradually in order to ascertain the changes to your records, identify any potentially fraudulent transactions, and eliminate discrepancies. So, how can you do this? Here are steps to guide you on how to do bank reconciliation:

  • Acquire the bank statement from the bank and examine the recorded transactions between your company and the bank for the stipulated period.
  • Crosscheck your business records in order to determine the similarity of the records with those of the bank.
  • Compare and cross-check the data entries in both withdrawal and deposit transactions in order to identify errors.
  • Check out for bank charges, expenses, uncleared checks, and balances in order to determine possible discrepancies.

Bank Reconciliation Accounting Example

Let us look at this example of a bank reconciliation accounting of a company:

If a company (X) is closing its books and wants to reconcile the following accounts with the bank, it will be as follows.

On January 31, 2022, the bank statement indicates an ending balance of $400,000, while the company’s ledger shows an ending balance of $360,900. A service charge of $200 for operating the account appears on the bank statement. Interest income of $20 is shown in the bank statement. X issued $60,000 checks that have yet to be cleared by the bank. X made a deposit of $30,000. But, it did not show up on his bank statement. In the cash payments record, a check for $570 issued to the official supplier was misreported as $470. Whereas the bank collected a note receivable of $10,000.

Moreover, The corporation has been charged for a $620 cheque as a non-sufficient fund.

        AmountAdjustment to books
Ending bank balance$400,000
Minus Checks not cleared-$60,000None
Add Deposit in transit + $30,000None
Adjusted bank balance$370,000
Ending book balance360,900
Minus service charge-$200Debit expense, credit cash
Add interest income.+$20Debit Cash, credit cash, interest income
Minus error on the cheque-$100Debit expense credit cash
Add note receivable+ $10,000Debit Cash, credit notes receivable
Minus NSF-$620Debit accounts receivable, credit cash
Adjusted book balance$370,000

A bank reconciliation statement should be created after recording the journal entries for the company’s book adjustments so as to reflect any changes in cash balances for each month. Auditors utilize this statement to conduct year-end audits for the company.

Bank Reconciliation Statement 

A bank reconciliation statement is a financial statement used for determining technical disparities in the bank cash book and a passbook by displaying all of the causes of the differences. Bank reconciliation statements aid in the identification of discrepancies between the bank’s and book balances, allowing required modifications or corrections to be made. Once a month, an accountant processes a reconciliation statement.

For instance, the bank reconciliation statement template below shows you how to calculate the adjusted cash balance using the bank statement and the company’s accounting record.

For example

      

  X Company

                    Bank Reconciliation Statement for the End of February 30, 2022

January 31, 2022. Cash balance as per bank statement                                              $400,000
Deposit in transit                                               +$30,000
Outstanding balance                                                -$60,000
Adjusted cash balance                                      $370,000
balance as per depositor’s record, January 31, 2022.                                                $360,900
Receivable collected by the bank.                                              +$10,000
Interest income                                                     +$20
NSF check                                                     -$620
service charge                                                     -$200
Error on the check                                                    -$100
Adjusted cash balance                                               $370,000

               

Why Reconcile Accounts

Reconciliation accounting is required if you manage a public corporation. When you are audited, you may be penalized if it is inaccurate. Therefore, it is something that should be carefully managed and treated seriously in order to lower compliance risk and safeguard your finances.

Account reconciliation, for one, aids in ensuring the accuracy of your financial statements. Balance sheets show every dollar you spend and every asset you acquire, so the accuracy of account reconciliation of accounts is crucial.

The reconciliation process is important for an array of reasons. Most of these reasons have to do with financial implications and the protection of your organization. At the same time, reconciling accounts will help you better understand your company’s financial position at any point in time. With this in mind, these reasons are to be checked out;

#1. Overdrafts

This occurs when transactions on your bank statement are still pending, yet the balance in your account may differ from reality. However, overdrafts from cash accounts can be avoided by doing bank reconciliations.

#2. Accuracy

By maintaining different sets of financial records that are in accordance with one another, you can rest assured that balances are accurate.

#3. Regulations

In order to adhere to government regulations, balance sheets must be right. Completing reconciliations consistently and promptly will help to ensure that your financial statements don’t have errors. Reporting the wrong balances can be a costly mistake, both financially and for your reputation.

#4. Risk

By conducting account reconciliations, you will not only reduce compliance risk but also prevent risks associated with fraudulent activities. If you notice something is off sooner rather than later, you can protect your business’s financial assets before real and irreversible damage occurs.

Conclusion

With the above example and definitions, I believe that you have seen that bank reconciliation accounting is crucial since it aids in the detection of any errors, discrepancies, or fraud in accounting records that could have a negative influence on your company’s financial health. Therefore, reconciling your account is an excellent business technique that can help your company succeed.

ACCOUNT RECONCILIATION FAQ

What is the meaning of reconciliation accounting?

Reconciliation is an accounting process in which two sets of records are compared to ensure that the results are correct and consistent. Reconciliation also ensures that the general ledger accounts are consistent, correct, and complete.

What is the main purpose of reconciliation?

The main purpose of reconciling business accounts is that it allows you to check for fraudulent activity and also avoid financial statement problems.

What are the Types of Reconciliations?

The types of reconciliation are as follows:

  • Bank Reconciliation
  • Vendor Reconciliation
  • Inter-company Reconciliation
  • Customer Reconciliation
  • ‍Business-Specific Reconciliation

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