Balancing the Books: A Beginner’s Guide to Account Reconciliation

As an accounting student, you’ll quickly discover that keeping accurate financial records is essential to any business’s success. One of the core tasks that accountants handle is account reconciliation. In this tutorial, we will explore the concept of account reconciliation, how it works, why it’s important, and how to perform it step-by-step using real-world examples. By the end, you’ll have a firm understanding of account reconciliation, including journal entries and their impact on financial statements.

What is Account Reconciliation?

Account reconciliation is the process of comparing two sets of financial records to ensure they are in agreement. It is a crucial part of maintaining the accuracy and integrity of a company’s financial statements. The goal is to identify and resolve any discrepancies between the balances shown in the company’s accounting records (e.g., the general ledger) and external records (such as bank statements, supplier invoices, or credit card statements).

Reconciliation is typically done for various accounts like cash, accounts payable, accounts receivable, and credit cards. It ensures that every transaction is accurately recorded and helps businesses avoid errors, fraud, and financial misstatements.

Why is Account Reconciliation Important?

Account reconciliation serves several key purposes:

• Ensures Accuracy: It helps ensure that financial statements reflect the correct financial position of the business.
• Detects Errors: It identifies discrepancies such as missed transactions, duplicate entries, or incorrect amounts.
• Prevents Fraud: By regularly reconciling accounts, businesses can catch any unauthorized transactions.
• Improves Internal Control: Reconciliation helps maintain a system of checks and balances, ensuring the business’s records are aligned with reality.

How to Perform Account Reconciliation: A Step-by-Step Guide

Let’s walk through a simple example to illustrate the reconciliation process. Imagine you are an accountant at a small company, and you are tasked with reconciling the company’s bank account with the general ledger.

The general ledger shows the following balance for the company’s cash account:

General Ledger Cash Account Balance: $5,000

You also have the bank statement, which shows the following:

Bank Statement Cash Balance: $4,500

At first glance, these balances don’t match, and it’s clear that there’s a discrepancy that needs to be addressed. Let’s break down how to perform the reconciliation and determine the cause of the difference.

Step 1: Compare Transactions

Start by reviewing the transactions in both the general ledger and the bank statement. Check the dates, amounts, and descriptions of each transaction.

• General Ledger Transaction List:
  1. Debit $1,000: Received payment from customer on December 1.
  2. Credit $500: Paid vendor on December 3.
  3. Debit $1,000: Received payment from customer on December 5.
• Bank Statement Transaction List:
  1. Deposit $1,000 on December 1 (Payment from customer).
  2. Withdrawal $500 on December 3 (Payment to vendor).
  3. Deposit $500 on December 5 (Payment from customer).
  4. Bank Fee $50 on December 7 (Bank charges a fee).

Step 2: Identify and Adjust for Differences

Now, let’s identify the discrepancies.

• The general ledger shows a $1,000 deposit on December 5, but the bank statement only shows a $500 deposit. The remaining $500 is missing.
• The bank statement lists a $50 bank fee, but the general ledger does not account for this fee.

Step 3: Record the Adjusting Journal Entries

To reconcile the two records, we need to adjust the general ledger to account for the bank’s fees and missing deposits. Here’s how to proceed:

Adjusting Journal Entry for Bank Fee: The bank has charged a fee of $50 that was not recorded in the general ledger. This fee should be recorded as an expense.

| Date         | Account                | Debit   | Credit  |
|--------------|------------------------|---------|---------|
| December 7   | Bank Charges Expense   | $50     |         |
| December 7   | Cash (Bank Account)    |         | $50     |

Adjusting Journal Entry for Missing Deposit: The missing $500 deposit from December 5 needs to be added to the general ledger.

| Date         | Account                | Debit   | Credit  |
|--------------|------------------------|---------|---------|
| December 5   | Cash (Bank Account)    | $500    |         |
| December 5   | Accounts Receivable    |         | $500    |

Step 4: Adjust for Any Outstanding Transactions

Next, check for any transactions that have been recorded in the general ledger but haven’t yet cleared the bank (or vice versa). These might include outstanding checks or pending deposits.

For example, let’s assume the company issued a check for $200 on December 6 to a supplier, but the check hasn’t cleared the bank yet. The check needs to be noted in the reconciliation process to ensure the general ledger and bank statement match.

Step 5: Final Reconciliation

After making all necessary adjustments, you can now reconcile the two accounts. The general ledger and the bank statement should now reflect the same cash balance.

Adjusted General Ledger Cash Balance:

Original Cash Balance: $5,000
+ Deposit Adjustment: $500
- Bank Fee: $50
Adjusted Cash Balance: $5,450

Adjusted Bank Statement Cash Balance:

Original Cash Balance: $4,500
+ Deposit Adjustment: $500
- Bank Fee: $50
Adjusted Cash Balance: $5,450

The Impact of Reconciliation on Financial Statements

Once the accounts are reconciled, you can confidently report the correct cash balance in the financial statements. This process helps ensure that both the balance sheet and income statement accurately reflect the company’s financial position.

Sample Balance Sheet (After Reconciliation):

| Assets                     | Amount   |
|----------------------------|----------|
| Cash (Bank Account)        | $5,450   |
| Accounts Receivable        | $500     |
| Total Assets               | $5,950   |

| Liabilities                | Amount   |
|----------------------------|----------|
| Accounts Payable           | $500     |
| Total Liabilities          | $500     |

| Equity                     | Amount   |
|----------------------------|----------|
| Owner's Equity             | $5,450   |
| Total Equity               | $5,450   |

Practice Questions

To test your understanding of account reconciliation, try these practice questions.

Question 1:

You are tasked with reconciling the bank account for a company. The general ledger shows a cash balance of $7,000, but the bank statement shows $6,800. Upon investigation, you find the following discrepancies:

1. A $200 deposit made on December 5 is missing from the bank statement.
2. A $50 bank fee is listed on the bank statement but hasn’t been recorded in the general ledger.
3. A $100 check issued on December 6 has not cleared the bank.

What adjustments are needed to reconcile the accounts?

Question 2:

A company’s general ledger shows an accounts payable balance of $2,500. The bank statement shows a payment of $2,200 made on December 5, but the check hasn’t been recorded in the general ledger. What journal entries would you make to reconcile the accounts?

Question 3:

A company has a credit card account that shows an ending balance of $1,200 on the general ledger. The credit card statement shows a balance of $1,300, with a $100 payment made on December 10. How do you reconcile the credit card account?

Answers:

Answer to Question 1:

Adjust the general ledger as follows:

1. Record the missing deposit: Debit cash, credit accounts receivable for $200.
2. Record the bank fee: Debit bank charges expense, credit cash for $50.
3. Note the outstanding check: No journal entry is needed, but be aware it will clear once processed by the bank.

Answer to Question 2:

Make the following journal entry:

| Date         | Account                | Debit   | Credit  |
|--------------|------------------------|---------|---------|
| December 5   | Accounts Payable       | $2,200  |         |
| December 5   | Cash (Bank Account)    |         | $2,200  |

Answer to Question 3:

To reconcile the credit card account:

1. Record the $100 payment: Debit credit card payable, credit cash for $100.
2. Update the credit card balance in the general ledger to reflect the payment and match the statement balance.

By working through these examples and practice questions, you should have a clearer understanding of account reconciliation. It’s an essential skill for accountants and an important step in ensuring that financial records are accurate and trustworthy. Happy reconciling!