Bank Reconciliation Process

Bank Reconciliation

• Format: two sections—Bank and Books—with adjustments for differences between the bank statement and company records.
• Bank Section:
  • Add: Deposits in Transit (deposits made by the company but not yet recorded by the bank)
  • Add: Bank Errors in favor of the company (bank understates the balance)
  • Subtract: Outstanding Checks (checks issued by the company but not yet cashed by the recipient)
  • Subtract: Bank Errors against the company (bank overstates the balance)
• Book Section:
  • Add: Interest Earned (earned from bank but unrecorded)
  • Add: Note Receivable Collections (collected by the bank on the company's behalf)
  • Add: Company Errors (errors that understate the book balance)
  • Subtract: Service Charges (fees charged by the bank)
  • Subtract: NSF Checks (checks deposited from customers that bounce/are not paid)
  • Subtract: Company Errors (that overstate the book balance)
• Adjustment to Book Balance:
  • All Adjustments ADDED to the Book Balance require debiting Cash.
  • Common credits for additions to the book balance include Interest Income and Notes Receivable.
  • All Adjustments SUBTRACTED from the Book Balance require crediting Cash.
  • Common debits for subtractions from the book balance include Bank Charge Expense and Accounts Receivable (for NSF checks).
• Note: Journal entries are only required for adjustments to the Books, not for those to the Bank.

Bad Debt Expense

• Estimating Bad Debt Expense: Companies use a variety of methods to estimate the amount of uncollectible receivables. - Percentage of Sales Method: Estimates Uncollectible Accounts Expense as a portion of credit sales. - Percentage of Receivables Method: Estimates Uncollectible Accounts Expense based on the percentage of accounts receivable considered likely to be uncollectible. - Aging of Receivables Method: Further refines the percentage of receivables method by aging receivables and applying different percentages to different age categories.
• Recording Write-Offs:
  • Write-Off: When an account is deemed uncollectible, it is written off, removing it from Accounts Receivable.
    • Credit Allowance for Doubtful Accounts (contra asset account reducing accounts receivable)
    • Debit Accounts Receivable (specific customer's account)
• Recording Recoveries:
  • Recovery: When a previously written-off account is collected, two entries are required:
    • Debit Accounts Receivable (re-establish the customer's account)
    • Credit Allowance for Doubtful Accounts (reduce the allowance)
    • Debit Cash (record receipt of payment)
    • Credit Accounts Receivable (reduce the customer's balance).

Notes Receivable

• Maturity Value:
  • Maturity Value = Principal + Total Interest
  • Maturity Date: The date the note is due.
  • Interest = Principal * Rate * Days / 360
• Journal Entries:
  • Receiving the Note:
    • Credit Accounts Receivable, Cash, Sales, etc.(depending on how the note was generated)
    • Debit Notes Receivable (for the principal amount).
  • Maturity:
    • Payment at Maturity:
      • Debit Cash (for maturity Value: Principal + Total Interest).
      • Credit Notes Receivable (for the principal amount).
      • Credit Interest Income (amount of earned interest).
    • Non-Payment at Maturity: (same entries as if they were paid!)
      • Debit Accounts Receivable (for the total unpaid balance)
      • Credit Notes Receivable (for the principal amount).
      • Credit Interest Income (for any accrued interest).
    • Note Crossing Year-End:
      • Adjusting Entry (for accrued interest): Debit Interest Receivable (Interest earned but not received yet) Credit Interest Income (for the amount of interest earned during the accounting period)

Asset Acquisition

• Costs to be Included:
  • Purchase Price: The amount paid for the asset.
  • Freight Costs: Cost of transporting the asset to its location.
  • Installation Costs: Cost of installing the asset.
  • Other Reasonable Costs: Costs directly related to getting the asset ready for use.
• Costs to be Excluded:
  • Operating Costs: Costs associated with running the asset (e.g., repairs, maintenance, insurance).
  • Vandalism, Damage: Costs resulting from unexpected events.

Asset Disposal

• Calculating Gain or Loss:
  • Book Value: Original Cost - Accumulated Depreciation.
  • Proceeds: The amount received from selling the asset.
  • Gain: If the proceeds are greater than the book value.
  • Loss: If the book value is greater than the proceeds.
• Journal Entries:
  • Sale:
    • Debit Cash (proceeds received)
    • Credit Accumulated Depreciation (to reduce the asset's carrying value to zero)
    • Credit Gain on Sale (if proceeds exceed book value)
    • Debit Loss on Sale (if proceeds are less than book value)
    • Credit Asset (ORIGINAL COST: to reduce the asset's balance to zero).

Miscellaneous

• Cash Short and Over: An account used to track discrepancies between the actual cash on hand and the expected cash balance.
  • Short: Debit Cash Short and Over (to account for shortage).
  • Over: Credit Cash Short and Over (to account for overage).
• Estimating Bad Debt Expense: Companies estimate the amount of uncollectible accounts expense.
  • Percentage of Sales Method: Estimates a percentage of credit sales that are likely to be uncollectible based on past experience.
  • Percentage of Accounts Receivable Method: Estimates a percentage of accounts receivable that are likely to be uncollectible based on past experience.
  • Aging of Receivables Method: Applies different percentages to different age categories of accounts receivables.
• Daily Cash Sales:
  • Journal Entry:
    • Debit Cash (amount in cash register)
    • Credit Cash Short and Over (for shortage) or Credit Cash Short and Over (for overage).
• Accounts Receivable Turnover: Measures how efficiently a company collects its receivables.
• Days Cash on Hand: Evaluates how long, on average, a company takes to collect its cash.

Test your understanding of the bank reconciliation process through this quiz. It covers adjustments needed for differences between bank statements and company records, including deposits in transit and outstanding checks. Perfect for accounting students looking to master this crucial topic.