In Preparing A Bank Reconciliation Outstanding Checks Are

In preparing a bank reconciliation, outstanding checks represent a critical discrepancy between a company's cash balance per its books and the cash balance reported by the bank. These checks, issued by the company but not yet cashed or deposited by the payee, create a timing difference that must be accounted for to accurately reflect the true cash position. Understanding outstanding checks, their impact, and the reconciliation process is essential for maintaining sound financial records and internal controls.

Understanding Bank Reconciliation

A bank reconciliation is the process of comparing the cash balance on a company's balance sheet to the corresponding amount on its bank statement to account for any differences. These differences can arise from various factors, including:

• Outstanding checks: Checks issued by the company but not yet cleared by the bank.
• Deposits in transit: Deposits made by the company but not yet recorded by the bank.
• Bank charges: Fees charged by the bank, such as monthly maintenance fees or overdraft fees.
• Bank credits: Deposits made directly to the company's account by customers or other parties.
• Errors: Mistakes made by either the company or the bank in recording transactions.

The primary goal of bank reconciliation is to identify and explain any discrepancies between the company's book balance and the bank balance, ultimately arriving at an adjusted cash balance that reflects the true amount of cash available.

The Significance of Outstanding Checks

Outstanding checks play a significant role in the bank reconciliation process because they represent a reduction in the company's cash balance that has not yet been reflected on the bank statement. Here's why they matter:

• Timing Difference: Outstanding checks are primarily a result of timing differences. The company has already recorded the check as a cash disbursement, reducing its book balance. However, the bank is unaware of the check until it is presented for payment.
• Impact on Cash Balance: If outstanding checks are not accounted for, the company's book balance will be higher than the actual cash available. This can lead to inaccurate financial reporting and poor decision-making.
• Internal Control: Monitoring outstanding checks is an important internal control measure. A large number of outstanding checks, or checks that remain outstanding for an extended period, could indicate potential fraud or errors.

Steps to Identify and Account for Outstanding Checks

Identifying and accounting for outstanding checks is a crucial step in the bank reconciliation process. Here's a detailed breakdown of the steps involved:

1. Obtain the Bank Statement: The first step is to obtain the bank statement for the period being reconciled. This statement provides a record of all transactions processed by the bank during the period, including deposits, withdrawals, and other charges.

2. Compare Deposits: Compare the deposits listed on the bank statement with the deposits recorded in the company's cash receipts journal. Any deposits recorded by the company but not yet reflected on the bank statement are considered deposits in transit and should be added to the bank balance.

3. Compare Payments: Compare the payments listed on the bank statement with the payments recorded in the company's cash disbursements journal. This is where the process of identifying outstanding checks begins.

4. Identify Outstanding Checks: Outstanding checks are those that have been recorded in the company's cash disbursements journal but do not appear on the bank statement. To identify these checks, you can use the following methods:

   • Manual Comparison: Manually compare each check listed in the cash disbursements journal with the checks listed on the bank statement. Any check that appears in the journal but not on the statement is an outstanding check.
   • Automated Reconciliation Software: Utilize accounting software or bank reconciliation tools that automatically match checks and identify outstanding items. These tools can significantly streamline the reconciliation process.

5. Prepare a List of Outstanding Checks: Once you have identified all outstanding checks, prepare a list that includes the following information for each check:

   • Check number
   • Date of the check
   • Payee (the person or company the check was issued to)
   • Amount of the check

6. Adjust the Bank Balance: Deduct the total amount of outstanding checks from the bank balance. This adjustment reflects the fact that the bank balance is currently overstated because it does not yet reflect these payments.

7. Verify the Reconciliation: After making all necessary adjustments, compare the adjusted bank balance with the adjusted book balance. If the two balances agree, the bank reconciliation is complete. If there are still differences, investigate further to identify any errors or omissions.

Example of Accounting for Outstanding Checks

Let's illustrate how outstanding checks are accounted for in a bank reconciliation with an example:

Scenario:

• Company ABC has a cash balance of $15,000 per its books on June 30.
• The bank statement shows a balance of $18,000 on June 30.
• The company identifies the following outstanding checks:
  • Check #123: $500
  • Check #124: $200
  • Check #125: $300
• The company also identifies a deposit in transit of $2,000.

Bank Reconciliation:

Outstanding Checks Calculation:

• Total Outstanding Checks = $500 + $200 + $300 = $1,000

Explanation:

1. The unadjusted bank balance is $18,000, while the unadjusted book balance is $15,000.
2. The deposit in transit of $2,000 is added to the bank balance because it has not yet been recorded by the bank.
3. The total amount of outstanding checks, $1,000, is deducted from the bank balance because these checks have been issued by the company but not yet cleared by the bank.
4. After these adjustments, the adjusted bank balance is $19,000.

To complete the reconciliation, the book balance would need to be adjusted for any bank charges, bank credits, or errors. If, after these adjustments, the adjusted book balance also equals $19,000, the bank reconciliation is complete.

Common Errors Related to Outstanding Checks

While the process of identifying and accounting for outstanding checks seems straightforward, several common errors can occur:

• Failing to Identify All Outstanding Checks: This is perhaps the most common error. It can occur due to carelessness or a lack of thoroughness in comparing the cash disbursements journal with the bank statement.
• Incorrectly Calculating the Total Amount of Outstanding Checks: Errors in addition or subtraction can lead to an incorrect total amount of outstanding checks, which will throw off the reconciliation.
• Including Stale Checks: A stale check is a check that has been outstanding for an extended period, typically more than six months. Banks are not obligated to honor stale checks. If a check is stale, it should be removed from the list of outstanding checks and the corresponding amount should be reversed in the company's books.
• Duplicating Outstanding Checks: This can occur if a check is accidentally listed as outstanding more than once.
• Misunderstanding the Timing of Transactions: It's important to understand the timing of transactions when identifying outstanding checks. For example, a check issued on the last day of the month may not clear the bank until the following month.

Best Practices for Managing Outstanding Checks

To ensure the accuracy and efficiency of the bank reconciliation process, consider implementing the following best practices:

• Reconcile Bank Accounts Regularly: Reconcile bank accounts on a monthly basis to identify and resolve discrepancies in a timely manner.
• Use Automated Reconciliation Tools: Utilize accounting software or bank reconciliation tools to automate the matching of checks and identify outstanding items.
• Establish a Clear Process for Identifying and Tracking Outstanding Checks: Develop a standardized procedure for identifying, listing, and tracking outstanding checks.
• Review Outstanding Checks Regularly: Periodically review the list of outstanding checks to identify any stale checks or other potential issues.
• Implement Strong Internal Controls: Implement internal controls to prevent fraud and errors in the cash disbursements process. This may include requiring multiple signatures for checks above a certain amount, segregating duties, and performing regular audits.
• Communicate with the Bank: If you have any questions or concerns about transactions on your bank statement, don't hesitate to contact the bank for clarification.
• Keep Detailed Records: Maintain detailed records of all bank reconciliations, including supporting documentation such as bank statements, cash disbursements journals, and lists of outstanding checks.

The Impact of Technology on Bank Reconciliation

Technology has significantly transformed the bank reconciliation process, making it more efficient, accurate, and automated. Here are some of the key ways technology has impacted bank reconciliation:

• Automated Matching: Accounting software and bank reconciliation tools can automatically match transactions between the company's books and the bank statement, significantly reducing the time and effort required for manual reconciliation.
• Electronic Bank Feeds: Many banks offer electronic bank feeds that automatically import transaction data into the company's accounting software, eliminating the need for manual data entry.
• Real-Time Visibility: Online banking and mobile apps provide real-time visibility into bank balances and transactions, allowing companies to monitor their cash position more closely.
• Improved Accuracy: Automation reduces the risk of human error, leading to more accurate bank reconciliations.
• Enhanced Reporting: Bank reconciliation software can generate detailed reports that provide insights into cash flow and identify potential issues.
• Cloud-Based Solutions: Cloud-based accounting software allows companies to access their financial data from anywhere with an internet connection, making it easier to collaborate and manage bank reconciliations remotely.

Conclusion

In preparing a bank reconciliation, outstanding checks are a critical element that must be carefully identified and accounted for. They represent a timing difference between a company's book balance and the bank balance and can significantly impact the accuracy of financial reporting. By understanding the steps involved in identifying and accounting for outstanding checks, implementing best practices, and leveraging technology, companies can ensure the accuracy and efficiency of their bank reconciliation process, maintain sound financial records, and improve their overall cash management. A thorough and accurate bank reconciliation is not merely a procedural task; it is a cornerstone of good financial governance and a vital tool for informed decision-making.