Bank Reconciliation | B2B Finance Glossary

What is Bank Reconciliation?

Bank reconciliation is integral to cash flow management, allowing finance teams to double-check their bookkeeping practices. In this process, businesses can compare the balances and transactions on their external bank statements to the cash balances and transactions recorded in the cash accounts of their general ledger. From here, finance team members can identify discrepancies and align the two cash amounts by adjusting for any transactions that still need to be recorded.

Why do Businesses Need to Engage in Bank Reconciliation?

The reality is that the cash shown on a company’s internal balance sheet rarely matches the cash balance it has in its bank. There can be many reasons for this mismatched information, including errors, timing issues, and sometimes even fraudulent activity. Bank reconciliation allows finance teams to settle these discrepancies to help them attain an accurate understanding of the cash the business has on hand. This is why bank reconciliation is an essential component of cash flow management.

What Does the Bank Reconciliation Process Look Like?

The bank reconciliation process can be broken down into three steps:

1. First, comparing the cash balances and transactions on the company’s book to those listed on an external bank statement is essential. The balances will rarely be matched up because of electronic transfer fees, outstanding checks and deposits, and different cutoff periods.
2. Next, both of these balances need to be adjusted. As a result, the amount of cash in the business’s bank account and the amount on the business’s ledger change because transactions reflected on one but not the other will be accounted for.
3. Finally, the reconciliation is recorded. The changes made to the cash accounts in the general ledger are correctly recorded, and the bank account balance will adjust naturally as the transactions pinpointed in the last step move through the banking system.

Why is Bank Reconciliation Important?

When finance teams check their books against their bank statements, they can more easily do the following:

• Find and correct errors. Bank reconciliation allows finance teams to pinpoint and bookkeeping errors. From there, correcting them and making any necessary changes in the future is easy.
• Get an accurate picture of how the business is doing. By engaging in bank reconciliation, finance teams can be more attuned to the company’s financial performance and get an accurate picture of the business’s financial health overall.
• Track profitability. Bank reconciliation makes it possible for finance teams to review business expenses and better understand how profitable those expenses are.
• More accurately detect fraud. Finance teams can more easily identify suspicious activity and fraudulent behavior by reviewing expenses in detail.
• Fully prepare to file taxes. For a business to properly file taxes, it must have a fully reconciled record of business income and expenditures.
• Get tax breaks. Bank reconciliation is a process that allows businesses to classify any tax-deductible expenses.

What are Some of the Challenges Associated with Bank Reconciliation?

Here are the most common causes of mismatches between books and bank statements that finance teams need to sort through in the process of bank reconciliation:

• Bank service fees. Many banks charge fees for different account services and types of payments. Sometimes, the exact amount of these fees is not fully known until they appear on a company’s bank statement. As a result, they need to be adjusted to a company’s books.
• Interest income. This number also isn’t always known before appearing on a company’s bank statement. During reconciliation, the amount is added to the company’s books.
• Uncleared checks. Uncleared checks are payments sent out but have yet to clear through the banking system. These are adjusted for during reconciliation.
• Voided checks clearing. During bank reconciliation, finance teams will record charges from a voided check that still clears the bank. While this is uncommon, it still occurs and must be identified.
• Returned deposited checks. Returned deposited checks are payments that the banking system cannot process. This occurs if a customer puts a stop order on a check or has insufficient funds in his account or if a company has failed to deposit the check for more than six months. These returned deposited checks must be adjusted for during the bank reconciliation process.

How Can Bank Reconciliation be Done Successfully?

While it’s up to every finance team to engage in the kind of best practices that suit their organization, there still are a few tips that you can incorporate into your process to help take your bank reconciliation to the next level:

• Consolidate multiple accounts. Sometimes, there is insufficient activity in a particular account to justify keeping it open. By closing these accounts and moving the funds to a more active account, you can make your bank reconciliation process much more efficient.
• Plan a schedule you can commit to. Reconciliation can take a long time – especially if they have been set aside for a while and many reconciliations need to be done. On top of this, by ignoring reconciliations that need to be done, you’re likely to miss important things that bank reconciliation can help your finance team spot, such as helping to identify cash flow issues. By setting a schedule for bank reconciliation and committing to it, you can ensure that this process never piles up and you don’t miss critical information that bank reconciliation allows you to see.
• Use automation to your advantage. By integrating automation into your bank reconciliation practices, you can eschew countless hours of manual labor – and save that time on paying team members to do these tasks for you. Especially as businesses start to scale rapidly, bank reconciliation will continue to get more complex, and automated solutions can make a huge difference.

If you want to learn more about how Paystand can help automate critical AR processes like bank reconciliation, set up a time to speak with one of our payments experts here today.