What a bank reconciliation is
A business keeps its own record of the money in its bank account. That record is the cash book. The bank keeps a record of the same account, and sends it as the bank statement.
The two are written by different people at different times, so on any one day they show different balances. A bank reconciliation is the working that explains the gap, item by item.
Every difference is one of two kinds.
- Items the bank knows first
- On the statement, but not in the cash book yet: bank charges, interest, direct debits, standing orders and money a customer paid straight in. The cash book is missing them, so the cash book is updated.
- Timing differences
- In the cash book, but not on the statement yet: a cheque that has not cleared, or money paid in on the last day. They clear by themselves within a few days, so nothing is changed.
A payment in the cash book that has not reached the statement is called an unpresented cheque. Money paid in that the bank has not shown yet is called an outstanding lodgement.
When every difference is listed and the two balances agree, the bank is reconciled.
The steps in order
You need the cash book for the period, the bank statement for the same period, and last month's reconciliation if there is one. Then work in this order.
- Look at last month's reconciliation. Each cheque or lodgement that was outstanding then should be on this month's statement. Tick it off.
- Compare the cash book with the statement, line by line. Tick every item that appears in both, checking the amount each time.
- List what is left unticked on the statement. These are the items the bank knew first.
- Write those items in the cash book, and work out the updated cash book balance.
- List what is left unticked in the cash book. These are the unpresented cheques and the outstanding lodgements.
- Write the reconciliation statement. Start from the balance on the bank statement. Add the outstanding lodgements. Take off the unpresented cheques.
- Compare the answer with the updated cash book balance. The two must be the same figure.
An unticked item can also be a mistake. A wrong figure in the cash book is corrected in the cash book. A mistake made by the bank is for the bank to correct: tell the bank, and leave the cash book as it is.
A worked example
Harbour Cycles is a bike repair shop. At the end of March its cash book shows a balance of £3,180.00. The bank statement for the same day shows £3,015.00.
After ticking, three items are on the statement and not in the cash book.
- Bank charges of £18.00
- A direct debit for insurance of £62.00
- A customer who paid £250.00 straight into the account
The bank knew these first, so the cash book is updated. Money taken out comes off the balance. Money paid in is added.
| Detail | £ |
|---|---|
| Balance in the cash book | 3,180.00 |
| Less bank charges | 18.00 |
| Less direct debit | 62.00 |
| Add receipt paid straight in | 250.00 |
| Updated cash book balance | 3,350.00 |
Three items are in the cash book and not on the statement.
- Takings of £540.00 paid in on 31 March: an outstanding lodgement
- A cheque for £130.00 to a parts supplier: an unpresented cheque
- A cheque for £75.00 to a sign maker: an unpresented cheque
These are timing differences, so they go on the reconciliation statement.
| Detail | £ |
|---|---|
| Balance on the bank statement | 3,015.00 |
| Add outstanding lodgement | 540.00 |
| Subtotal | 3,555.00 |
| Less unpresented cheques | 205.00 |
| Balance in the cash book | 3,350.00 |
The two cheques come to £205.00. The reconciliation gives £3,350.00, and the updated cash book shows £3,350.00. Every difference is explained, so the bank is reconciled.
Common mistakes
- Reconciling before the cash book is updated. Update the cash book first, then reconcile to the updated balance.
- Adding the cheques and taking off the lodgements. From the statement balance it is the other way round: the bank has still to add the lodgements and still to take off the cheques.
- Putting bank charges or a direct debit on the reconciliation statement. They are not timing differences. They belong in the cash book.
- Ticking two items because the amounts match, when the dates and the names do not.
- Reading the bank's debit and credit as your own. The statement is written from the bank's side, so money in your account shows there as a credit. In your own cash book the same money is a debit.
- Leaving a small difference unexplained. A gap of a few pounds can be two larger mistakes that nearly cancel.
A line is never added just to force the two figures to agree. If the reconciliation does not reach the cash book figure, something is still unexplained.
How to check your work
- The reconciliation ends on the updated cash book balance, to the penny.
- Every line on the reconciliation statement is a cheque or a lodgement with a date near the end of the period.
- Nothing on the statement is still unticked, apart from a mistake by the bank that you have reported.
- The next statement shows each outstanding item. A cheque that stays unpresented month after month needs a question to the person it was sent to.
Reconcile every time a statement arrives. The shorter the period, the fewer lines there are to trace when the balances do not agree.
Practise it
Words used here
- Bank reconciliation
- A bank reconciliation explains the gap between the balance in the cash book and the balance on the bank statement.
- Cash book
- The cash book records every receipt into the bank and every payment out of it. It is also the Bank account in the ledger.
- Unpresented cheque
- An unpresented cheque is a payment in the cash book that has not reached the bank statement yet.
- Outstanding lodgement
- An outstanding lodgement is money paid in, and entered in the cash book, that the bank statement has not shown yet.
- Direct debit
- A direct debit lets the payee collect money from the payer's bank account. The payee decides the amount and the date.
- Standing order
- A standing order is an instruction from the payer to its own bank to pay a fixed amount on fixed dates.
Questions
Which balance does a bank reconciliation start from?
The balance on the bank statement. Add the outstanding lodgements, take off the unpresented cheques, and the answer must match the updated cash book balance.
How often should a bank reconciliation be done?
Every time a bank statement arrives. A short period leaves fewer lines to trace when the two balances do not agree.
What if the two balances still do not agree?
Something is unexplained. Check the ticking again, check the adding up of the cash book, and look for a figure copied wrongly. Never add a line just to make the figures agree.
Does a bank reconciliation change the bank statement?
No. Only the cash book is changed, and only for items the bank knew first or for the cash book's own mistakes. A mistake by the bank is reported to the bank.