A Beginner’s Guide to Financial Reconciliation - Optimus

Financial reconciliation is a crucial process for your small business.

Get it wrong, and you’re well on paying more taxes than you should.

Get it right, and you could be on top of your finances.

But what exactly is financial reconciliation, and what information do you need to know to reconcile your transactions?

This article aims to answer these questions and gives some practical advice to help you make sure your business books are up-to-date and accurate!

What’s Financial Reconciliation?

Imagine you buy a plane ticket for a business trip on your business debit card. When this transaction appears on your bank statement, you’ll need to record it in your accounting records. Failure to do so means your records will show a different figure in your bank account.

Financial reconciliation is an accounting process that compares and matches two sets of financial records. It’s typically done regularly and is applied to different sources of financial information within the business.

This generally involves comparing internal statements with external statements to ensure that all transactions have been correctly recorded, all records are up to date, and there are no errors or discrepancies.

Types of Reconciliation

You can perform financial reconciliation in different ways -

• Bank reconciliation
• Vendor reconciliation
• Intercompany reconciliation
• Credit card reconciliation
• Petty cash reconciliation

Why Is Financial Reconciliation Important?

If you’ve ever found yourself with a more significant bank balance than you know, you should have been billed for a purchase you didn’t make; then you probably understand the importance of account reconciliation.

While taking the next flight to Vegas with those extra funds may be tempting, your bank will likely identify the error when reconciling their accounts, and you’ll be left stuck in a desert with an empty wallet.

Reconciliation is a critical business accounting practice that ensures the reliability of your business’s financial records.

Financial reconciliation can help you -

• Comply with federal regulations applied by the SEC
• Ensure the accuracy and validity of financial statements
• Add bank fees to your books
• Catch errors in data entry
• Detect fraudulent transactions
• Prepare for tax filings

Common Discrepancies That May Happen During the Reconciliation Process

• Missing payments or receipts
• Incorrectly recorded transactions
• Incorrect figures entered
• Bank fees not entered
• Duplicate payments or receipts
• Deposits in transit
• Outstanding checks

Manual Reconciliation vs. Automation

You run the risk of missing transactions by manually retyping transactions between your bank statement and a paper ledger or spreadsheet.

Failure to log a transaction will make you look like you’re underreporting your sales. The IRS might see this as a sign that you’re trying to pay less tax than you should, which could trigger scrutiny from Uncle Sam.

Adding extra transactions or accidentally double-counting transactions means you’ll be liable to pay more tax than you should. It can be time-consuming and costly to correct these types of mistakes.

Regarding reconciling financial transactions, spreadsheets are an option, but cloud accounting software is less prone to errors and offers far greater functionality.

Like any process, they are introducing automation solutions to make reconciliation more efficient. Accounting software systems automatically retrieve information from your bank statements from uploaded CSV files or with the help of a bank feed provider and compare the numbers in a matter of seconds.

Doing away with manual financial reconciliation gives you more time to focus on critical analytical considerations.

When Is Financial Reconciliation Performed?

Financial reconciliation is typically done at the end of an accounting period, mainly at the end of the month or year-end financial close.

Doing reconciliation regularly ensures that transactions being closed out are correctly verified and that the closing statements are accurate.

A Step-by-Step Guide to Reconciling Your Financial Transactions

Step 1 - Gather and prepare your source documents (bank statements, supplier statements, receipts, invoices). Identify the account(s) to be reconciled and the period for which the financial reconciliation will apply. For this guide, we’ll use a bank statement.

Step 2 - Get a general ledger with debits and credits for the account during the review period. These will provide the transaction details to be reconciled.

Step 3 - Have your account system ready. It will analyze the data, review all debits and credits, substantiate them against the bank statement, and make all necessary adjustments.

Step 4 - Ensure the opening balance in your accounting system matches that of your bank statement at the beginning of the month.

Step 5 - Check each transaction on your bank statement systematically with the help of a bank feed.

Step 6 - Check that your closing balance matches your bank statement balance. If it doesn’t, head back to step 3.

Step 7 - If your bank balance matches the balance on your business books, you have successfully reconciled your bank transactions!

Conclusion

Financial reconciliation is a critical process applied to all financial transactions within your business.

At its most basic level, reconciliation is used to authenticate that your business is appropriately credited for income received and that money leaving corresponds accurately to known payments being made.

It’s vital to reconcile accounts regularly, at least at year-end. Any discrepancies must be inspected and corrected. A good accounting software package can save time in completing financial reconciliations and help decrease the risk of errors.