Bank Reconciliations: Examples and Practice Problems

A bank reconciliation is a puzzle with exactly one answer: how much cash do we actually have? This guide shows you how to solve every bank reconciliation by asking one question, with a cheat sheet, a fully worked example, the journal entries, a trick for finding your mistakes on a test, and a practice problem to try yourself.

I'll be honest with you. Bank reconciliations are one of my favorite topics in financial accounting. I know, by now you probably think I'm insane for liking this stuff. But here's why: a bank reconciliation is a puzzle, and I like puzzles. Most books and teachers launch straight into how to do one, with little to no time spent on what the heck a bank reconciliation even is. If you understand the why, the how becomes legitimately a piece of cake.

Section I. What Is a Bank Reconciliation?

Let's start with the word. Reconciliation means bringing together, making things compatible, making them consistent. The way I think of it: you've got two or more competing stories about the same event, and reconciling them means distilling all of those stories down to the one truth. Two people can see something happen, but that something was still one thing. (I bet you never thought so much of accounting was actually English.)

In a bank reconciliation, the truth we're after is how much cash do we have? There's only one answer to that question. We don't have $1,000 and also, at the same time, $1,500. That's a logical impossibility.

So what are the competing stories? There are two:

• The books: what our company's records say we have.
• The bank: what the bank's records say we have.

And here's the important part. Between our company and the bank there's a wall. We are not the bank. The bank is not us. That may sound ridiculous, but it matters, because we know about some things that the bank doesn't know about yet, and the bank knows about some things that we don't know about yet. That knowledge doesn't get shared instantly.

In that picture, the bank tells us, "Hey, we collected $300 for you." We didn't know that, so we add $300 to our books. While we have the bank on the phone, we tell them, "Hey, we wrote $200 in checks that haven't hit your desk yet." They didn't know that, so their balance comes down $200. Now both sides say $1,300, and that's our true cash.

Section II. The Only Question: Who Doesn't Know?

Every line of a bank reconciliation problem describes something that really happened. For each one, picture the real-world scenario, then ask one question: who doesn't know? The answer tells you which side it goes on.

Here's how that plays out for everything you're likely to see on a test. Don't memorize this table. Read the "who doesn't know?" column and convince yourself why each one is true, and you'll never need it.

One thing to keep in mind: we never actually change the bank's numbers. We can't. The bank is the bank. When we adjust the bank side, we're just saying, "I know that when the bank finds out about this, it's going to add (or take away) this money, so let's go ahead and do that now."

Section III. Let's Do One

Enough theory. Here's a full problem. It may look overwhelming at first, but it's a puzzle, and we're going to solve the whole thing by asking "who doesn't know?" over and over.

Always start by writing down both beginning balances. The bank sent us a statement as of July 31 that says, "You've got $4,610." Our books say, "We've got $3,900." There's only one truth, and neither of these is it. Now let's go line by line.

1. Deposits in transit, $445. We got some checks and sent them to the bank, but they're still somewhere in the mail. Who doesn't know? The bank. When the checks arrive, the bank will add $445, so we add $445 to the bank side.
2. Bank error, $20. Somebody else's check came out of our account. We know it's a mistake; we never wrote that check. Who doesn't know? The bank, they're the ones who made the mistake. When we call and tell them, they'll put the $20 back, so we add $20 to the bank side.
3. Note collected, $1,025. Somebody owed us money and the bank collected it for us. The bank clearly knew; they did the work. We didn't know until the statement showed up. Who doesn't know? Us. Add $1,025 to the book side.
4. Bank charges, $10. The bank charged us $10, presumably just because they're a bank. They knew. We didn't, until the statement arrived. Who doesn't know? Us. The money's really gone, so subtract $10 from the book side.
5. NSF check, $35. NSF means non-sufficient funds, which just means a bounced check. A customer paid us with a $35 check, so we increased our cash by $35. But they only had $20 in their account, so no money ever made it into ours. The bank knew right away. Who doesn't know? Us. Subtract $35 from the book side, because we never really got that cash.
6. Book error, $75. First, size the mistake: we wrote $175 when it should have been $100, so it's a $75 mistake. We took cash down by $175 when we should have only taken it down by $100. We took it down too far, so we need to bring it back up by $75. Who didn't know? Us, obviously, because if we'd known, we wouldn't have done it. We only found out when the bank statement said the check cleared for $100. Add $75 to the book side.
7. Outstanding checks, $120. This is the mirror image of deposits in transit. We wrote checks, but nobody has cashed them yet. Who doesn't know? The bank. When they get cashed, the bank will take out $120, so subtract $120 from the bank side.

We've run out of scenarios. If we did everything right, both sides should add up to the same number:

$4,955 on both sides. That's our one true number. If we had known about everything and the bank had known about everything, we'd both have had $4,955 all along. Each adjustment just fills in some missing knowledge about what really happened.

Section IV. Debit Memos and Credit Memos

Most of the time, a problem will say something like "debit memo for bank charges," and you're a smart person: the bank charged you, so your money went down. But what if it just says "debit memo, $10"? Did our account go up or down?

The trick is that memos are written from the bank's point of view. Say we have $1,000 in the bank. To us, that's cash, an asset. But to the bank, that money still belongs to us. Someday the bank has to give it back, so on the bank's books, our deposit is a liability.

So when the bank issues a debit memo, it's debiting a liability, which makes it go down: our money goes down. When it issues a credit memo, it's crediting a liability, which makes it go up: our money goes up. A note the bank collected for us usually shows up as a credit memo. I'm about 90% sure the problem will tell you what the memo was for, but now you can figure it out either way.

Section V. The Journal Entries

Remember the wall? We can only fix our books. Everything on the bank side is stuff the bank will sort out on its own once it finds out, so it gets no journal entry. Everything on the book side is something that really happened that our books don't reflect yet, so each one needs a journal entry. Here are the four from our July 31 example:

The NSF one is worth a second look. When the customer paid us, we increased cash. The check bounced, so we never got that cash, but the customer still owes us the $35. So cash goes down and accounts receivable goes back up. And for the book error, we originally debited accounts payable $175 and credited cash $175 when both should have been $100, so we put $75 back on each. (If a problem tells you part of a collected note was interest, that part gets credited to Interest Revenue instead of Notes Receivable.)

Section VI. When It Doesn't Balance

Here's the good news about bank reconciliations: you'll know right away if you made a mistake, because the two sides won't match. (If they do match, that doesn't guarantee you're right, but about 90% of the time you can feel good about it.)

Let's say on your test you got confused on the book error and wrote −$75 instead of +$75. Your book side comes out to $4,805, your bank side says $4,955, and you start to freak out. Take a breath. You know how to do this. Here's how to find it:

1. Find how far off you are. $4,955 − $4,805 = $150.
2. Divide by two. $150 ÷ 2 = $75. The most common mistakes are putting an item on the wrong side or getting its sign backwards, and both of those are double mistakes. Put an item on the wrong side and one side is too low by the amount and the other side is too high by the same amount. Flip a sign and that side swings by twice the amount.
3. Look for that number. Is anything $75? There it is. Now go back and think harder about that one item: should it be a plus, or should it be on the other side?

Section VII. Try One Yourself

Show the answer

Books
Balance per books	$7,615
− Bank service charges	(25)
− NSF check	(160)
+ Interest earned	40
+ Book error ($650 − $560)	90
True cash balance	$7,560

Bank
Balance per bank statement	$8,390
+ Deposits in transit	1,350
− Outstanding checks	(2,180)
True cash balance	$7,560

The bank didn't know about the deposits in transit or the outstanding checks. We didn't know about the service charges, the bounced check, the interest, or our own mistake. The book error is the sneaky one: we took cash down by $650 when we should have only taken it down by $560, so we took it down $90 too far and need to add $90 back.

Only the book side gets journal entries:

Bank Service Charge Expense	25
Cash	25

Accounts Receivable	160
Cash	160

Cash	40
Interest Revenue	40

Cash	90
Accounts Payable	90