What is Reconciliation?
Reconciliation is an accounting process that uses two sets of records to ensure figures are correct and in agreement. It confirms whether the money leaving an account matches the amount that’s been spent, and ensure the two are balanced at the end of the recording period. Reconciliation provides consistency and accuracy in financial accounts.
Reconciliation is particularly useful for explaining the difference between two financial records or account balances. Some differences may be acceptable due to the timing of payments and deposits. Unexplained or mysterious discrepancies may be signs of theft or cooking the books.
Breaking Down Reconciliation
There is no standard method of accounting reconciliation, but Generally Accepted Accounting Principles (GAAP) consider double-entry accounting and account conversion to be the main procedures. Businesses and individuals may reconcile their records daily, monthly or annually using either of these methods.
Difference Between Double-Entry Reconciliation and Account Conversion
In double-entry accounting, commonly used by companies, every financial transaction is posted in two columns of a balance sheet.
For example, if a business takes out a long-term loan for $10,000, the accountant credits the long-term debt column with that amount and debits the cash column with the same amount. When these amounts are added together, the account reconciles or balances at zero. Similarly, imagine that a business incurs an invoice for carpet-cleaning services. It credits the amount of the invoice in its accounts payable column, and it debits accounts payable and credits the cash column. Again, the two columns should agree, balancing out at zero.
Under the account conversion method, records such as receipts or canceled checks are simply compared with the entries in a ledger.
Reconciliation in Personal Accounting
At the end of every month, many individuals reconcile their checkbooks and credit card accounts by comparing their canceled checks, debit card receipts and credit card receipts with their bank and credit card statements. This type of account reconciliation makes it possible to determine whether money is being fraudulently withdrawn. It also ensure financial institutions have not made any errors with individuals’ accounts, and it gives consumers an overall picture of their spending.
When an account is reconciled, the statement’s transactions and ending balance should match the account holder’s records. For a checking account, it is also important to know how any pending deposits or outstandung checks affect the statement balance.
Reconciliation in Business Accounting
Account reconciliation is also important for businesses. Companies must reconcile their accounts to prevent balance sheet errors, check for fraud, and avoid penalties from auditors.
Some reconciliation are necessary to ensure that all cash inflows and outflows match up on the income statement and the cash flow statement. Other reconciliations turn non-GAAP measures, such as earnings before interest, taxes, depreciation and amortization (EBITDA), into their GAAP-approved counterparts.
(Source taken from : What is Reconciliation? by Investopedia)