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Intermediate Accounting - Bank reconciliation review notes.
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BANK RECONCILIATIONTypes of Bank Deposits
Demand deposit – this is the current account or checking account where deposits are covered by deposit slips
where funds are withdrawable on demand by writing checks against the bank.
Savings deposit/Savings account – the depositor is given a passbook and/or an ATM account. For savings
account without an ATM account, the passbook is required when making deposits and withdrawals.
Time deposit – an interest-bearing deposit evidenced by a formal agreement embodied in an instrument called
certificate of deposit.
The Need for Bank Reconciliation
Bank reconciliation is only needed under demand deposits or checking accounts.
To understand what bank reconciliation is, it is important to have a background about how the entity and the bank
account for the same set of transactions.
Basically, the deposits made by an entity to a bank is considered as an asset by the depositor (i.e. cash in bank), and a
liability by the bank. The bank considers such as a liability since it is essentially a loan by the bank from the depositor.
For instance, Company A created a checking account with Bank of PI, and deposited P100,000.
The journal entry in Company A’s books is as follows:
Cash in Bank P100,000
Cash on Hand P100,000
The journal entry in Bank of PI’s books is as follows:
Cash P100,000
Demand Deposit – Company A P100,000
The credit to the demand deposit account recognizes the liability of the bank (Bank of PI) to the depositor (Company
A).
Continuing the example, let’s say Company A draws and issues a check for P8,000 as payment for a payable. The
journal entry in Company A’s books is as follows:
Accounts Payable P8,000
Cash in Bank P8,000
When the payee presents the check to the bank for payment, the bank then prepares the following journal entry:
Demand Deposit – Company A P8,000
Cash P8,000
To summarize, whenever there is a debit (an increase) in the company’s cash in bank account, there should also be a
corresponding credit (increase) in the bank’s liability account.
Needless to say, whenever there is a credit (a decrease) in the company’s cash in bank account, there should also be a
corresponding debit (decrease) in the bank’s liability account.
In other words, the balance of the cash in bank account of a company must always be equal to the demand deposit
account of the bank. Relating it to the example, Company A’s cash in bank balance is P92,000 (which is P100,000
minus P8,000); while Bank of PI’s liability is also P92,000.
However, very frequently, there are items on the depositor’s book which do not appear on the bank records as of the
same date, or the other way around. In this case, the book balance (the depositor’s records) and the bank balance (the
bank records) must be reconciled.
Bank Reconciliation
A bank reconciliation is a statement which brings into agreement the cash balance per book and the cash balance per
bank. This is usually prepared monthly because the bank provides the depositor with the bank statement at the end of
every month.
A bank statement is a monthly report of the bank to the depositor showing:
a. The cash balance per bank at the beginning
b. The deposits made by the depositor and acknowledged by the bank
c. Other deposits made by other parties and acknowledged by the bank
d. The checks drawn by the depositor and paid by the bank
, e. Charges made by the bank
f. The daily cash balance per bank during the month
When the bank statement is received, attached thereto are the depositor’s cancelled checks and any debit or credit
memoranda that have affected the depositor’s account.
The cancelled checks are the checks issued by the depositor and paid by the bank during the month. They are called
cancelled checks because they are literally cancelled by stamping or punching to show that they have already been
paid.
Reconciling Items
At the end of every month, comparison between the cash records of the depositor and the bank statement received
from the bank will yield the following reconciling items:
Book Reconciling Items
1. Credit Memos
2. Debit Memos
3. Errors
Bank Reconciling Items
1. Deposits in Transit
2. Outstanding Checks
3. Errors
Credit Memos
Credit memos are essentially notifications to the depositor that its bank account has been credited (increased). The
increase normally does not represent those that are caused by the depositor, such as deposits.
Typical examples:
a. Notes receivable collected by the bank in favor of the depositor and credited to the account of the depositor.
b. Proceeds of bank loan credited to the account of the depositor.
c. Matured time deposits transferred by the bank to the current account of the depositor.
Credit memos become a book reconciling item since these essentially result to an understatement in the cash balance
per books. Since the bank increased the depositor’s account without the depositor increasing its own cash balance, an
adjustment must be made by the depositor in its books.
Debit Memos
Debit memos are the exact opposite of credit memos. They notify the depositor that its account has been debited
(decreased).
Typical examples of debit memos are:
a. No sufficient fund (NSF) checks – these are checks that are deposited but returned by the bank because of
insufficiency of fund. The other name for NSF check is DAIF or “drawn against insufficient fund”.
b. Technically defective checks – these are checks deposited but returned by the bank because of technical
defects such as absence of signature, erasures not countersigned, mutilated checks, conflict between amount
in words and amount in figures, etc.
c. Bank service charges – these include bank charges for interest, collection, checkbook, and penalties.
d. Reduction of loan – this pertains to amount deducted from the current account of the depositor in payment for
loan which the depositor owes to the bank and which has already matured.
For the same reason as credit memos, debit memos become a book reconciling item since the bank recorded a
transaction that the depositor did not yet take up in its books.
Deposits in Transit
Deposits in transit are collections already recorded by the depositor as cash receipts, but not yet reflected on the bank
statement.
These include:
a. Collections already forwarded to the bank for deposit but has not yet been received by the bank, or too late to
appear in the bank statement.
b. Undeposited collections or those still in the hands of the depositor. In effect, these are cash on hand awaiting
delivery to the bank for deposit.
Deposits in transit are a bank reconciling item since these represent transactions recorded by the depositor but have
not yet been recorded by the bank.
Outstanding Checks
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