Quick answer
A bank reconciliation explains why the bank statement balance and the Cash balance in the accounting records differ at the same date. It identifies timing differences, book-side items, and errors, then determines the corrected cash balance. Missing or incorrect book entries require journal entries; bank-side timing differences do not.
The bank statement is an independent external record of transactions processed by the financial institution. The Cash ledger reflects transactions recorded by the business. Neither balance is automatically the correct balance: a deposit may be recorded by the business before the bank processes it, or the bank may charge a fee that has not reached the ledger.
Purpose of bank reconciliation
Reconciling cash makes the difference between timing and missing information visible. It also provides a disciplined review of unusual transactions and recording errors before financial statements are finalized. The reconciliation supports the ledger; it does not replace the bank statement, source documents, or management review.
Bank and book sides of a reconciliation
A deposit in transit is recorded by the business but not yet processed by the bank. An outstanding cheque is a payment recorded by the business that has not yet cleared the bank. Both are timing differences: they change the reconciliation without requiring another entry in the books.
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| Item | Side | Effect | Journal entry? |
|---|---|---|---|
| Deposit in transit | Bank | Add to the bank statement balance | No; already in the ledger |
| Outstanding cheque | Bank | Subtract from the bank statement balance | No; already in the ledger |
| Bank charge | Books | Subtract from the book balance | Yes, if not recorded |
| Interest credited by bank | Books | Add to the book balance | Yes, if not recorded |
| Returned customer cheque | Books | Subtract from Cash and restore the receivable | Yes, if not recorded |
| Recording error | Books or bank | Correct the side containing the error | Depends on who made it |
Reconcile North Shore Design’s April cash balances
On April 30, North Shore Design’s bank statement shows $10,850 and its Cash ledger shows $10,600. The statement includes neither a $1,400 deposit in transit nor $1,950 of outstanding cheques. The bank also processed a $75 charge, $25 of interest, a $600 electronic customer collection, and a $300 returned cheque. None of these four items is yet recorded in the books. The business recorded one cheque as $90 when it was actually $640, so Cash is overstated by $550.
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| Bank side | Amount | Book side | Amount |
|---|---|---|---|
| Bank statement balance | $10,850 | Ledger Cash balance | $10,600 |
| Add: deposit in transit | 1,400 | Add: electronic collection | 600 |
| Less: outstanding cheques | (1,950) | Add: bank interest | 25 |
| Corrected cash balance | $10,300 | Less: charge, returned cheque, and error | (925) |
| Corrected cash balance | $10,300 |
The book-side adjustments net to $600 + $25 − $75 − $300 − $550 = −$300. The ledger therefore moves from $10,600 to $10,300. The bank-side adjustments net to $1,400 − $1,950 = −$550, moving $10,850 to the same $10,300. The agreement is the test of the arithmetic, not proof that every item is valid.
Record items missing from the books
Each book-side item needs both a Cash effect and the account that explains why Cash changed:
- The $75 bank charge increases Bank Charges Expense and decreases Cash.
- The $25 bank credit increases Cash and records Interest Income.
- The $600 electronic collection increases Cash and settles part of Accounts Receivable.
- The $300 returned cheque removes the cash that did not clear and restores the customer’s receivable.
- The bank cleared a $640 cheque, but the books reduced Cash by only $90. Cash therefore needs a further $550 credit, with a debit to the actual account used in the original entry. The exact debit depends on what the cheque paid; “original expense or payable” is not itself an account.
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| Account | Debit | Credit |
|---|---|---|
| Bank Charges Expense | 75 | |
| Cash | 75 |
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| Account | Debit | Credit |
|---|---|---|
| Cash | 25 | |
| Interest Income | 25 |
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| Account | Debit | Credit |
|---|---|---|
| Cash | 600 | |
| Accounts Receivable | 600 |
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| Account | Debit | Credit |
|---|---|---|
| Accounts Receivable | 300 | |
| Cash | 300 |
The source facts do not identify what the cheque purchased, so the account cannot be selected from the reconciliation alone. If the original cheque paid for office supplies consumed during the period, the correction would be:
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| Account | Debit | Credit |
|---|---|---|
| Office Supplies Expense | 550 | |
| Cash | 550 |
If it instead settled an existing payable, debit that actual payable account for $550. In either case, the credit to Cash is the same.
These five entries reduce the book balance by $300 in total. The deposit in transit and outstanding cheques remain entry-free timing differences.
Financial-statement effect
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| Statement | Account | Effect | Timing |
|---|---|---|---|
| Balance sheet | Cash | Reports the corrected reconciled balance | April 30 |
| Income statement | Bank charges and interest | Expenses and income recorded for April | April |
| Cash flow statement | Cash | The ending cash balance agrees; the reconciliation does not create a new cash flow | April 30 |
- Balance sheet
- AccountCash
- EffectReports the corrected reconciled balance
- TimingApril 30
- Income statement
- AccountBank charges and interest
- EffectExpenses and income recorded for April
- TimingApril
- Cash flow statement
- AccountCash
- EffectThe ending cash balance agrees; the reconciliation does not create a new cash flow
- TimingApril 30
Controls around cash
A reconciliation is a detective control: it helps find timing differences, missing entries, errors, and unusual activity after transactions have reached the bank or ledger. Preventive controls work earlier by limiting who can receive cash, initiate a payment, change banking instructions, or record the transaction. A useful cash-control routine combines both kinds.
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| Control objective | Example | What it addresses |
|---|---|---|
| Authorization | Require appropriate approval for payments and transfers. | Unapproved or improperly directed cash outflows. |
| Separate incompatible duties | Do not give one person sole control over authorization, cash or banking access, recording, and reconciliation. | An error or misuse being both committed and concealed. |
| Restrict access | Limit online-banking permissions, cheque stock, cash drawers, and changes to vendor or customer payment details. | Unauthorized use or diversion of cash. |
| Use complete evidence | Retain deposit records, payment support, bank notices, and a clear reference between entries and source documents. | Transactions that cannot be traced or supported. |
| Review promptly | Have someone independent of routine cash handling review the bank statement, reconciliation, unusual items, and old outstanding amounts. | Errors or suspicious items remaining unresolved. |
A small organization may not have enough people to separate every duty. In that case, direct owner or governance review of bank activity, payment approvals, supporting documents, and completed reconciliations can provide a compensating control. The reviewer must investigate unexplained differences rather than merely sign a reconciliation that was forced to agree.