Bank Reconciliation Statement Chapter Notes | Accountancy Class 11 - Commerce PDF Download

Introduction

Business organisations keep a cash book to record all cash and bank transactions. The cash book functions as both a cash account and a bank account and shows the bank balance as per the firm's books at the end of a period. The bank (or pass) statement supplied by the bank records all credits and debits effected by the bank in the firm's account.

A bank statement normally shows deposits as credit and withdrawals as debit. If deposits exceed withdrawals, the statement shows a credit balance; if withdrawals exceed deposits, it shows a debit balance (an overdraft).

Ideally, the bank balance shown in the cash book and the balance in the bank statement should agree. In practice, they often differ due to timing differences, direct bank transactions not recorded in the cash book, and errors either in the cash book or by the bank. The process of locating and explaining these differences is called bank reconciliation.

Need for Reconciliation

• When the bank balance shown in the firm's cash book is compared with the balance shown in the bank passbook, the two balances frequently do not match.
• To find the cause of the difference we must identify the reasons for the discrepancy.
• These differences are summarised in a document called a Bank Reconciliation Statement (BRS), which explains how one balance is converted into the other.

To prepare a Bank Reconciliation Statement you require:

• The bank balance as shown in the cash book on a specified date.
• The bank statement or passbook for the same date.
• Details of transactions appearing in either record and any other supporting information.
• A careful comparison of entries in the cash book and passbook to identify items causing the difference.
• A clear list of amounts to be added to or deducted from either balance to arrive at the other balance; a two-column format (additions and deductions) is often convenient.

Specimen of bank statement (current account)

Timing Differences

Differences between the cash book and the passbook are commonly caused by timing differences - transactions recorded in one book but not yet recorded in the other. Typical reasons include:

• Cheques issued but not yet presented: Cheques paid out by the business are recorded in the cash book immediately on the credit side, but the bank will only debit the account when the payee presents them for payment. Unpresented cheques thus reduce the cash book balance but do not yet appear in the passbook.
• Cheques deposited but not yet cleared: Cheques received and recorded as deposits in the cash book are credited in the bank only after clearance. Until then, they are deposits-in-transit and appear in the cash book but not in the passbook.
• Direct debits made by the bank: The bank may deduct charges (collection charges, standing instructions payments, interest on overdrafts) directly from the account. These deductions appear only in the passbook until the business records them in the cash book.
• Direct deposits made into the account: Customers or others may deposit money directly into the firm's bank account. The passbook shows these credits before the firm records them in its cash book.
• Interest and dividends collected by the bank: The bank may collect interest/dividends on behalf of the firm and credit the account. These are passed through the passbook first and then recorded in the cash book on receipt of the statement.
• Standing instructions given to the bank: Regular payments such as rent or insurance paid by the bank under standing instructions will appear in the passbook but may not be recorded in the cash book until the statement is examined.
• Dishonoured cheques or bills: If a cheque previously deposited is dishonoured, the bank debits the account. This reduces the passbook balance; the firm records this only after receiving the passbook.

Difference Caused by Errors

Apart from timing differences, discrepancies may arise because of errors made either by the firm in its cash book or by the bank in the passbook.

Errors by the firm:

• Omission of transactions (e.g., failing to record a deposited cheque or a bank charge).
• Incorrect recording of amounts (e.g., entering Rs 4,500 instead of Rs 5,400).
• Wrong totals or balancing mistakes in the cash book.
• Recording a receipt as payment or vice versa.

Errors by the bank:

• Omission of customer deposits from the passbook.
• Incorrect entries or wrong arithmetic while updating the passbook.
• Crediting or debiting a wrong account.

Preparation of Bank Reconciliation Statement

After identifying causes of differences, a bank reconciliation can be prepared in two main ways:

• Prepare a Bank Reconciliation Statement without adjusting the cash book (a statement that reconciles the two balances but does not change cash book figures).
• Prepare a Bank Reconciliation Statement after adjusting the cash book (where necessary adjustments are first made in the cash book and corresponding journal entries passed, and then the remaining reconciliation is prepared).
• In practice, reconciling after adjusting the cash book is common because adjustments (bank charges, direct deposits, dishonoured cheques) need to be recorded in the books.

Bank Reconciliation Statement - Without Adjusting the Cash Book Balance

• Choose the starting point: either the balance as per the cash book or the balance as per the passbook.
• Interpret debit and credit balances correctly: a debit balance in the cash book usually indicates money at the bank (favourable balance); a credit balance in the cash book indicates an overdraft (unfavourable balance).
• List items to be deducted from the starting balance and items to be added to it so that after adjustments you obtain the balance shown in the other record.
• Common adjustments when starting from the cash book (favourable balance): deduct deposits-in-transit (cheques deposited but not cleared); add unpresented cheques (cheques issued but not yet presented); deduct bank charges and dishonoured cheques; add direct deposits and bank credits for interest or collections.
• Use a two-column format (Additions and Deductions) for clarity: one column shows amounts to be added to the starting balance and the other shows amounts to be deducted.
• The final adjusted figure should equal the balance shown in the passbook.

Handling Favourable Balances (Money at Bank)

• Write the date at the top of the Bank Reconciliation Statement.
• Begin with the balance shown in the cash book (or passbook) as specified.
• Deduct cheques deposited but not yet collected (deposits-in-transit).
• Add cheques issued but not yet presented.
• Deduct bank charges, dishonoured cheques, and any payments made directly by the bank under standing instructions.
• Add bank credits such as interest collected or direct receipts.
• Adjust for errors discovered either in the cash book or the passbook.
• After making these additions and deductions, the resulting balance should equal the balance shown in the passbook.

Dealing with Overdrafts

• An overdraft is shown as a credit balance in the cash book and as a debit (Dr.) balance in the passbook.
• When dealing with overdrafts, treat the figures as negative amounts while making adjustments and maintain sign consistency throughout the reconciliation.
• The bank reconciliation statement for an overdraft follows the same logical procedure: start with the overdraft balance in the cash book (credit) and make appropriate additions and deductions to arrive at the overdraft shown in the passbook or vice versa.
• Common causes of differences for overdrafts are identical: unpresented cheques, direct debits, bank charges, bank errors and cash book errors.