Reconciling Account Definition Example How Does It Works

Reconciling Account Definition

How does Reconciling Account Work?

Reconciliation is a step by step process which include as follows –

Step #1 – Gathering Bank Statement and Tallying with Cash Book

Cash Book is the internal record keeping that all businesses maintain to keep a record of all the monetary transactions. So it would be best if you started tallying both the accounts. If you see that there is any transaction that is present in the Bank Statement but it is not there in the cash book, then highlight that transaction. See if all the transactions have a confirming receipt, such as an Invoice. The ending balance of cash bookCash BookThe Cash Book is the book that records all cash receipts and payments, including funds deposited in the bank and funds withdrawn from the bank according to the transaction date. All the transaction which is recorded in the cash book has the two sides i.e., debit and credit.read more and bank statement should match.

Step #2 – Now Try to Analyze the Discrepancies

Go through all the discrepancies that arrived, and if they are valid, then add them to separate books. If you see that the bank statement shows a lesser balance than the Cash Book, try to find the reasons. It could be that the bank has deducted certain current account charges, ATM withdrawal charges, etc. If those charges are not included in the cash book, then include them. If you have received interest from a bank due to capital and that interest is not reflected in your cash book, then include that interest.

Step #3 – Start Doing Proper Audit of the Bank Statement

At times, the bank may wrongly charge you with some fee. So this kind of error should be communicated to the bank immediately, and a proper note should be maintained. Proper follow-ups should be maintained with the bank until and unless the error resolves.

Step #4 – Tally Ending Balances of Both Cash Book and Bank Statement

It is the most crucial step. The final balances of the Cashbook and Bank Statement should tally as all necessary adjustments are already made. After this, a bank reconciliation statement is formulated, explaining the reason for the discrepancy between the two books.

You are free to use this image on you website, templates, etc., Please provide us with an attribution linkHow to Provide Attribution?Article Link to be HyperlinkedFor eg:Source: Reconciling Account (wallstreetmojo.com)

Types

Reconciling can be done on any account. Every ledger accountsLedger AccountsLedger in accounting records and processes a firm’s financial data, taken from journal entries. This becomes an important financial record for future reference. It is used for creating financial statements. It is also known as the second book of entry.read more should be reconciled from source to make the balance trustworthy.

#1 – Bank Reconciliation

It is where you reconcile the internal cash book with the bank statement to make sure that the cash transactions are correctly recorded without errors.

#2 – Creditors Account Reconciliation

All the transactions under Accounts PayableAccounts PayableAccounts payable is the amount due by a business to its suppliers or vendors for the purchase of products or services. It is categorized as current liabilities on the balance sheet and must be satisfied within an accounting period.read more are systematically tallied with statements received from creditors, and the final balance is tallied.

#3 – Debtors Account Reconciliation

All the debtors’ statements are tallied with accounts receivableAccounts ReceivableAccounts receivables is the money owed to a business by clients for which the business has given services or delivered a product but has not yet collected payment. They are categorized as current assets on the balance sheet as the payments expected within a year. read more, and discrepancies are resolved.

How to Reconcile an Account?

There are two ways to reconcile an account –

#1 – Documentation Review

This method is very popular. Here each recorded transaction is tallied by proper documentation. Say you are reconciling Accounts Payable, then each transaction will be tallied by appropriate invoices, which will check whether the transactions are correct. Missing transactions are also identified this way, i.e., if there is an invoice, and it is not recorded in the books.

#2 – Analytical Review

This method is more of an estimation. Account balancesAccount BalancesAccount Balance is the amount of money in a person’s financial account, such as a savings or checking account, at any given time. Furthermore, it can refer to the total amount of money owed to a third party, such as a utility company, credit card company, mortgage banker, or other similar lender or creditor.read more of prior periods are checked, and an estimate is done for the current year. If the account balance is not reflecting as per prediction, then further analysis is done. It is helpful when reconciling depreciation accounts. DepreciationDepreciationDepreciation is a systematic allocation method used to account for the costs of any physical or tangible asset throughout its useful life. Its value indicates how much of an asset’s worth has been utilized. Depreciation enables companies to generate revenue from their assets while only charging a fraction of the cost of the asset in use each year. read more is more or less the same each year. So if any movement is observed compared to the previous year, then the analysis is done.

Example

Mr. X is preparing its balance sheetBalance SheetA balance sheet is one of the financial statements of a company that presents the shareholders’ equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner’s capital equals the total assets of the company.read more and is doing the reconciliation of each account. He is currently working on Accounts payable. How will he reconcile it?

Solution

The accounts payable account consists of all the pending payments for Mr. X. So whatever Mr. X bought on credit will reflect in this account. Say there are five entries in this account. The total balance of the account is $10,000. So Mr. X owes $10,000 to his suppliers. As Mr. X is maintaining an account for Accounts Payable, thus the suppliers are also maintaining an Accounts Receivable account.

Mr. X will ask for the final customized bill from each supplier and check whether the amount adds up to $10,000. If there is any discrepancy, that the supplier has added extra payment, then Mr. X should immediately contact them and get it fixed. So once the reconciliation is done. Then the balance of Accounts payable can be trusted.

Need

Every business maintains internal accounts. So after the end of the period, the balances of the accounts portray a picture. Say the Accounts receivable account shows that $5,000 is receivable. So if the company has not done reconciliation, they may start operating, thinking they will receive $5,000. At the same time, reconciliation found that the correct amount is $3,000. So reconciliation helps to eradicate uncertainty. Once reconciliationReconciliationReconciliation is the process of comparing account balances to identify any financial inconsistencies, discrepancies, omissions, or even fraud. At the end of any accounting period, reconciliation involves matching balances and ensuring that debits (credits) from one account for one transaction is same as the credit (debits) to another account for the same transaction.read more is done, the account balances can be trusted.

Conclusion

Reconciling accounts is extremely important for businesses as it helps to create trust in the balances reflected by each account. Proper reconciliation is always advised. Storage of all essential documentation is vital in case of reconciliation.