CHAPTER 2​

BANK RECONCILIATION

BANK DEPOSITS by the bank, to show the specimen signatures to

be used on the checks.
There are three kinds of bank deposits, namely
demand deposit, saving deposit and time deposit. These specimen signatures will be filed by the
bank so that any teller who may be unfamiliar with
1.​ Demand deposit a depositor's signature can test the authenticity of
The demand deposit is the current account a check by comparing the depositor's signature
or checking account or commercial deposit on the card with the signature on the check.
where deposits are covered by deposit If the depositor is a corporation, the bank will
slips and where funds are withdrawable on request that the directors pass a resolution
demand by drawing checks against the authorizing certain officers of the corporation as
bank. A demand deposit is usually signatories of checks and that a copy of this
noninterest bearing. However, some banks resolution be filed with the bank.
allow a demand deposit account as interest
bearing. Let us now illustrate some fundamental
transactions affecting the depositor and the bank.
2.​ Saving deposit
Assume that Company X (the depositor) collected
In a saving deposit, the depositor is given a P100,000 from a customer in settlement of an
passbook upon the initial deposit. The account. The collection is deposited at the First
passbook is required when making Bank.
deposits and withdrawals. Withdrawals are
made anytime but the bank sometimes The journal entry to record the collection and the
may require notice of withdrawal. A saving subsequent deposit is:
deposit is interest bearing.
Cash (or -in bank)​​ XX​
3.​ Time deposit ​ Accounts receivable​ ​ XX

The time deposit is similar to saving On the books of the bank, the journal entry is:
deposit in the sense that it is interest
bearing. A time deposit is evidenced, Cash​ ​ ​ XX​
however, by a formal agreement embodied ​ Company X​ ​ ​ XX
in an instrument called certificate of The journal entry on the books of the bank shows
deposit. Time deposit may be the credit is Company X account. This is made,
preterminated or withdrawn on demand or for our purpose, to facilitate the illustration.
after a certain period of time agreed upon.
In practice, however, the account credited by the
What is a bank reconciliation? bank is demand deposit account but the same is
Before we answer the question, let us have a posted to the subsidiary ledger of Company X.
background on the matter of opening a demand When the bank credits the account of the
deposit or checking account." depositor, Company X, it recognizes its liability to
Incidentally, of the three kinds of deposit, a bank the depositor.
reconciliation is necessary only for a demand Legally, when a deposit is made, there exists a
deposit or checking account. debtor-creditor relationship between the bank and
When an account is opened at the bank, the the depositor, the bank being the debtor, and the
person authorized to draw checks against the depositor being the creditor.
account will be required to sign cards furnished
Hence, when the account of the depositor is For example, checks issued by the depositor are
increased the same is credited. not yet presented for payment to the bank or
deposits may have been made after the bank
Let us assume further that Company X records are sent out to the depositor.
subsequently issued a check for P30,000 in
payment of an account payable. On the books of And less frequently, there are items on the bank
Company X, the journal entry is. records which do not appear on the depositor's
book.
Accounts payable​​ XX​
​ Cash​ ​ ​ ​ XX For example:

The journal entry on the books of the bank is: a.​ The bank may have charged the depositor's
account with service charges which the
Company X​ ​ XX​ depositor may not know about until a report is
​ Cash​ ​ ​ ​ XX received from the bank.
When a check is issued, the payee will present b.​ Notes endorsed to the bank for collection
the same to the bank for payment. have been collected by the bank and credited
to the depositor's account but notice of
The depositor is actually ordering the bank to pay collection is not yet received from the bank by
the payee out of its deposit in the bank. the depositor. In the light of the foregoing, it
becomes necessary to prepare a bank
This is the reason the bank debits the account of reconciliation.
the depositor thereby reducing its liability to the
depositor.

Thus, when the depositor's account is decreased, Bank reconciliation

the same is debited.
A bank reconciliation is a statement which brings
At this point, when balances are extracted, the 'into agreement the cash balance per book and
cash in bank account on the depositor's book has cash balance per bank.
a balance of P70,000, and the Company X
account on the book of the bank has also a The reconciliation is usually prepared monthly
balance of P70,000. 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

Explanation to the depositor showing:

The two accounts have equal or the same a.​ The cash balance per bank at the beginning
balances because they are reciprocal accounts. b.​ The deposits made by the depositor and
acknowledged by the bank
This means that when one account is debited, the c.​ The checks drawn by the depositor and paid
other account is credited or vice versa. by the bank
d.​ The daily cash balance per bank during the
The reason for this is that the two accounts cover
month
or reflect the same items or transactions.
Actually, the bank statement is an exact copy of
Thus, if no errors are committed in recording, and
the depositor's ledger in the records of the bank.
the same information has been recorded by both
accounts, the two should have equal or the same When the bank statement is received, attached
balances. thereto are the depositor's canceled checks and
any debit or credit memoranda that have affected
But very frequently, there are items on the
the depositor's account.
depositor's book which do not appear on the bank
records as of the same date.
The canceled checks are the checks issued by cash disbursements. The debit memos have the
the depositor and paid by the bank during the effect of decreasing the bank balance.
month. These are called canceled checks
because they are literally canceled by stamping Typical examples of debit memos are:
or punching to show that they have been paid. a.​ NSF or no sufficient fund checks are
checks deposited but returned by the bank
because of insufficiency of fund. The other
Reconciling items name for NSF is DAIF or "drawn against
insufficient fund".
At the end of every month, comparison between b.​ Technically defective checks are checks
the cảsh records of the depositor and the bank deposited but returned by the bank
statement received from the bank will yield the because of technical defects such as
following reconciling items: absence of signature or countersignature,
1.​ Book reconciling items: erasures not countersigned,
a.​ Credit Memos [Link], conflict between amount
b.​ Debit Memos in words and amount in figures.
c.​ Errors c.​ Bank service charges include bank
2.​ Bank reconciling items charges for interest, collection, checkbook
a.​ Deposits in transit and penalty.
b.​ Outstanding checks d.​ Reduction of loan pertains to amount
c.​ Errors deducted from the current account of the
depositor in payment for loan which the
depositor owes to the bank and which has
already matured.
Credit Memos

Credit memos refer to items not representing

deposits credited by the bank to the account of Deposits in transit
the depositor but not yet recorded by the
depositor as cash receipts. Deposits in transit are collections already
recorded by the depositor as cash receipts but
The credit memos have the effect of increasing not yet reflected on the bank statement.
the bank balance.
Deposits in transit include:
Typical examples of credit memos are:
a.​ Collections already forwarded to the bank
a.​ Notes receivable collected by bank in for deposit but too late to appear in the
favor of the depositór and credited to the bank statement.
account of the depositor. b.​ Undeposited collections or those still in the
b.​ Proceeds of bank loan credited to the hands of the depositor. In effect, these are
account of the depositor cash on hand awaiting delivery to the
c.​ Matured time deposits transferred by the bank for deposit.
bank to the current account of the
depositor.
Outstanding checks

Debit memos Outstanding checks are checks already recorded

by the depositor as cash disbursements but not
Debit memos refer to items nọt representing yet reflècted on the bank statement.
checks paid by bank which are charged or
debited by the bank to the account of the Outstanding checks include:
depositor but not yet recorded by the depositor as
 a.​ Checks drawn and already given to Bank Balance​ ​ ​ ​ ​ xx​
payees but not yet presented for payment. Add: Deposits in transit​ ​ ​ xx
b.​ Certified checks - A certified check is one
where the bank has stamped on its face Total​ ​ ​ ​ ​ ​ xx​
the word "accepted" or "certified" Less: Outstanding checks​ ​ ​ xx
indicating sufficiency of fund. Adjusted bank balance​ ​ ​ XX
When the bank certifies a check, the account The reconciling items of the book are simply
of the depositor is immediately debited or termed as credit memos and debit memos.
charged to insure the eventual payment of the
check. No details are shown to simplify the illustration.

Certified checks should be deducted from the In actual formal reconciliation, details will have to
total outstanding checks (if included therein) be shown.
because they are no longer outstanding for
bank reconciliation purposes. Moreover, errors are excluded because no
definite rule can be made whether these are to be
added or deducted.

Forms of bank reconciliation Errors will have to be analyzed for proper

treatment.
The following formats may be used in reconciling
the book balance and the bank balance: However, errors are reconciling items of the party
which committed them.
a.​ Adjusted balance method - Under this
method, the book balance and the bank It will be observed that under the adjusted
balance are brought to a correct cash balance method, the credit memos are always
balance that must appear on the balance added to the book balance and the debit memos
sheet. are always deducted from the book balance.
b.​ Book to bank method-– Under this
method, the book balance is reconciled Deposits in transit are always added to the bank
with the bank balance or the book balance balance and the outstanding checks are always
is adjusted to equal the bank balance. deducted from the bank balance.
c.​ Bank to book method - Under this method,
the bank balance is reconciled with the
book balance or the bank balance is Explanation
adjusted to equal the book balance.
The foregoing procedures can be explained as
The first method is preferred over the follows:
other two.
The adjusted balance method means that the
book balance and the bank balance are adjusted
to equal the correct cash balance.
Proforma reconciliation
Credit memos already increased the bank
Adjusted balance method
balance but have no effect on the book balance
Book balance​ ​ ​ ​ ​ xx​ because the credit memos are not yet recorded
Add: Credit Memos​ ​ ​ ​ xx by the depositor.

Total​ ​ ​ ​ ​ ​ xx​ Consequently, the book balance is understated in

Less: Debit memos​ ​ ​ ​ xx relation to the correct cash balance.

Adjusted book balance​ ​ ​ XX Hence, credit memos are added to the book
balance.
Debit memos already decreased the bank Thus, since the deposit in transit is added to the
balance but have no effect on the book balance bank balance, it is now deducted from. the book
because the debit memos are not yet recorded by balance, and since the outstanding check is
the depositor. deducted from the bank balance, it is now added
to the book balance.
Consequently, the book balance is overstated in
relation to the correct cash balance.

Hence, debit memos are deducted from the book Explanation of reversal rule
balance.
The book to bank method means that the book
Deposits in transit already increased the book balance is adjusted to equal the bank balance.
balance but have no effect on the bank balance
because the deposits are not yet recorded by the Deposits in transit already increased the book
bank. balance but have no effect on the bank balance
because the deposits are not yet recorded by the
Consequently, the bank balance is understated in bank. Consequently, the book balance is
relation to the correct cash balance. overstated in relation to the bank balance.

Hence, deposits in transit are added to the bank Hence, deposits in transit are deducted from the
balance. book balance following the book to bank method.

Outstanding checks already decreased the book On the other hand, outstanding checks already
balance but have no effect on the bank balance decreased the book balance but have no effect on
because the checks are not yet paid by the bank. the bank balance because the checks are not yet
paid by the bank. Consequently, the book balance
Consequently, the bank balance is overstated in is understated in relation to the bank balance.
relation to the correct cash balance.
Hence, outstanding checks are added to the book
Hence, outstanding checks are deducted from the balance, following the book to bank method.
bank balance.

Bank to book method

Book to bank method
Bank balance​ ​ ​ ​ ​ xx​
Book balance​ ​ ​ ​ ​ xx​ Add: ​ Deposits in transit​ ​ xx​
Add: ​ Credit memos​​ ​ xx​ ​ Debit memos​ ​ ​ xx​ xx
​ Outstanding checks​ ​ xx​ xx
Total​ ​ ​ ​ ​ ​ xx​
Total​ ​ ​ ​ ​ ​ xx​ Less: ​ Outstanding checks​ ​ xx​
Less: ​ Debit memos​ ​ ​ xx​ ​ Credit memos​​ ​ xx​ xx
​ Deposits in transit​ ​ xx​ xx
Book balance​ ​ ​ ​ ​ XX
Bank balance​ ​ ​ ​ ​ XX
When the reconciliation starts with the bank
When the reconciliation starts with the book balance and ends with the book balance, the
balance and ends with the bank balance, the usual bank reconciling items are treated in the
usual book reconciling items are treated in the same manner they are treated in the "adjusted
same manner they are treated in the "adjusted balance method", that is, deposit in transit is
balance method", that is, credit memos are added added and outstanding check is deducted.
and debit memos are deducted.
However, with respect to the book reconciling
However, with respect to the bank reconciling items, treatment is simply "reversed".
items the treatment is simply "reversed."
Thus, since the credit memos are added to the The general ledger of the company shows the
book balance, they are now deducted from the cash in bank account for January as follows:
bank balance, and since the debit memos are
Cash in bank - First Bank
deducted from the book balance, they are now
Jan. 31 CR. 150,000 Jan. 31 CD 100,000
added to the bank balance.
​
The balance of the cash in bank on the
depositor's book is P50,000.
Explanation of reversal rule

The bank to book method means that the bank

balance is adjusted to equal the book balance. Bank Statement

Debit memos already decreased the bank The following is the bank statement for January
balance but have no effect on the book balance received from the First Bank:
because they are not yet recorded by the
In account with: No. 775​
depositor.
Company X​ ​ ​ FIRST BANK​
Consequently, the bank balance is understated in Quezon City​ ​ ​ Manila, Philippines
relation to balance. the book balance. Hence,
Date Check No. Withdrawals Deposits Balance
debit memos are added to the bank balance Jan. 6 60,000 60,000
8 721 5,000 55,000
On the other hand, credit memos already 11 722 10,000 45,000
12 723 18,000 27,000
increased the bank but have no effect on the book 14 20,000 47,000
balance because they are not yet recorded by the 17 724 2,000 45,000
26 30,000 75,000
depositor. 26 15,000 CM 90,000
30 5,000 RT 85,000
Consequently, the bank balance is overstated in 30 1,000 SC 84,000

relation to the book balance. Hence, credit ​

memos are deducted from the bank balance. Code: ​CM - Credit memo​
​ DM - Debit memo​
​ SC - Service charge​
​ RT - Returned check
Illustration
The following data are gathered in connection
The cash records of Company X show the
with the CM and DM appearing on the bank
following for the month of January.
statement:
CASH RECEIPTS
a.​ The CM of P15,000 on January 26
​ Jan.​ 5​ ​ ​ 60,000​ represents proceeds of note collected by
​ ​ 13​ ​ ​ 20,000​ the bank in favor of the company.
​ ​ 25​ ​ ​ 30,000​ b.​ The RT of P5,000 represents check of
​ ​ 31​ ​ ​ 40,000​ customer deposited previously but
​ ​ ​ ​ ​ 150,000 returned by the bank because of "no
sufficient fund" or NSF. ​
CASH DISBURSEMENTS

​ Jan. 6​ Check No. 721​ 5,000​

​ 7​ Check No. 722​ 10,000​ General procedures in preparing the
​ 10​ Check No. 723​ 18,000​ reconciliation
​ 14​ Check No. 724​ 2,000​
a.​ Determine the balance per book and the
​ 28​ Check No. 725​ 37,000​
balance per bank.
​ 31​ Check No. 726​ 28,000​
​ ​ ​ ​ ​ 100,000
 As mentioned earlier, the cash in bank Total 124,000
Less: Outstanding checks:
account on the book of the depositor has
Check No. 725 37,000
a debit balance of P50,000. Check No. 726 28,000 65,000
Adjusted bank balance 59,000
The bank balance is shown on the bank
statement as the final item, P84,000.
Preparation for adjusting entries
b.​ Trace the cash receipts to the bank
statement to ascertain whether there are Only the book reconciling items require adjusting
deposits not yet acknowledged by the entries on the book of depositor. This is but
bank. understandable.

In the illustrative problem, the cash receipt The adjustments are necessary to bring the cash
of P40,000 on January 31 does not in bank balance to its correct balance for
appear in the bank statement. This statement presentation purposes.
represents deposit in transit.
a.​ To record the note collected by bank:
c.​ Trace the checks issued to the bank
Cash in bank​ ​ 15,000​
statement to ascertain whether there are
​ Notes receivable​ ​ 15,000
checks not yet presented for payment.
b.​ To record the NSF customer check:
In the illustrative problem, Check Nos. 725
for P37,000 and 726 for P28,000 do not Accounts receivable​ 5,000​
appear in the bank statement. These are ​ Cash in bank​ ​ ​ 5,000
outstanding checks.
c.​ To record the bank service charge:
d.​ The bank statement should be examined
to determine whether there are bank Bank service charge​ 1,000​
credits or bank debits not yet recorded by ​ Cash in bank​ ​ ​ 1,000
the depositor.
In the preparation is of adjustments, an item
In the illustrative problem there is CM of added to the book balance is debited to cash and
P15,000 and DM for returned check of an item deducted from the book balance is
P5,000 and service charge of P1,000. credited to cash.

e.​ Watch out for errors. Again, errors are

reconciling items of the party which
Book to bank method
committed them. In the illustrative
problem, there are no errors committed. COMPANY X​
Bank Reconciliation​
At this point, a formal reconciliation may be
January 31
prepared because all the reconciling items have
already been determined. Balance per book 50,000
Add: Note collected 15,000
Outstanding checks No. 725 87,000
No. 726 28,000 65,000 80,000
Total 130,000
Adjusted balance method Less: NSF check 5,000
Service charge 1,000
Balance per book 50,000 Deposit in transit 40,000 46,000
Add: Note collected by bank 15,000 84,000
Total 65,000
Less: NSF customer check 5,000
Service charge 1,000 6,000 COMPANY X​
Adjusted book balance 59,000
Bank Reconciliation​
Balance per bank 64,000 January 31
Add: Deposit in transit 40,000
Balance per bank 84,000
Add: Deposit in transit 40,000 There is an understatement of cash
NSF Check 5,000
Service charge 1,000 46,000 disbursement and a consequent
Total 130,000 overstatement of book balance in the amount
Less: Outstanding checks No. 725 37,000
No. 726 28,000 65,000
of P18,000. The error is deducted from the
Note collected by bank 15,000 80,000 book balance and adjusted, as follows:
50,000
Accounts payable​​ 18,000​
​ Cash in bank​ ​ ​ 18,000
Some errors and their correction
c.​ Deposit of another entity is credited by the
a.​ Understatement of cash receipts on the book
bank to the account of the depositor.
of depositor.
This is a deduction from the bank balance
For example, the collection from customer
because it erroneously increased the account
which is deposited amounts to P10,000 but
balance of the depositor in the bank. No
recorded in the book only as P1,000,
adjustment is necessary on the book of the
There is an understatement of cash receipt of depositor.
P9,000. The error is added to the book
d.​ Check of another entity charged to the
balance and adjusted as follows:
account of the depositor.
Cash in bank​ ​ 9,000​
This is an addition to the bank balance
​ Accounts receivable​ ​ 9,000
because it erroneously decreased the account
b.​ Understatement of checks drawn by balance of the depositor in the bank. No
depositor. adjustment is necessary on the book of the
depositor.
For example, a check in payment of account
payable amounting to P20,000 is recorded in
the book as P2,000.