BAF3M-U6-L01 · BAF3M
Cash controls and bank reconciliation
Learning goals
- Match cash risks to preventive, detective, and corrective controls.
- Operate and reconcile a simple imprest petty-cash fund.
- Prepare a bank reconciliation and journalize book-side items.
- Explain why controls reduce risk but cannot guarantee prevention or detection.
Prerequisite check
Why can a trial balance remain equal when a cash receipt is omitted completely? Name one document that could reveal the omission.
Vocabulary
- Internal control: processes designed to support reliable reporting, effective operations, asset protection, and compliance.
- Separation of duties: assigning authorization, custody, recording, and review to different people where practical.
- Preventive control: aims to stop an error or misuse before it occurs.
- Detective control: aims to identify a problem after or as it occurs.
- Imprest fund: petty cash maintained at an authorized fixed amount between replenishments.
- Bank reconciliation: explanation that brings bank and book cash records to the same adjusted amount.
- Outstanding cheque/payment: recorded by the business but not yet cleared by the bank.
- Deposit outstanding: recorded by the business but not yet shown by the bank.
- NSF item: customer payment rejected by the bank; under the simple course convention, the customer receivable is restored.
Core idea
Cash is portable and frequently used, so no one person should control every stage when separation is practical. A bank reconciliation compares independent records and makes timing differences and errors visible.
Why this treatment makes sense
The bank may know fees or rejected deposits before the business records them. The business may know about deposits and cheques before the bank processes them. Each side is adjusted for items missing or wrong on that side; only book-side items require journal entries in the business records.
A repeatable method
Control design: Risk → responsibility → control → evidence it operated → limitation.
Bank reconciliation:
- Start with bank statement balance and book Cash balance.
- Bank side: add deposits outstanding; subtract outstanding payments; correct bank errors.
- Book side: add bank collections/interest; subtract fees, NSF items, and book errors.
- Both adjusted balances must agree.
- Journalize book-side changes only.
- Trace outstanding items after period-end; investigate stale items.
Worked example
At May 31, Birchline Repairs has:
- bank statement balance $14,860;
- deposit outstanding $2,175;
- outstanding cheques $1,440;
- book Cash balance $15,912;
- bank service charge $52 not yet recorded;
- customer cheque $265 returned NSF, not yet recorded.
Bank side: $14,860 + $2,175 − $1,440 = $15,595.
Book side: $15,912 − $52 − $265 = $15,595.
Book-side entry:
| Account | Debit | Credit |
|---|---|---|
| Bank Charges Expense | $52 | — |
| Accounts Receivable | 265 | — |
| Cash | — | $317 |
No entry is made for the deposit outstanding or outstanding cheques because the business already recorded them. Reasonableness: the ledger Cash balance after posting becomes the adjusted $15,595.
Controls around this process include prompt deposits, prenumbered receipts, restricted cash access, approved electronic-payment changes, and an independent reconciler who does not handle cash.
Journal, ledger, and statement connection
Cash receipts and payments enter the journal and ledger from authorized evidence. The reconciliation updates missing book items and supports the statement Cash balance. Outstanding-item follow-up links the reconciliation to later bank evidence.
Common mistakes
- Journalizing deposits outstanding and outstanding cheques a second time.
- Adjusting the wrong side for an error.
- Treating an NSF cheque as Bank Charges Expense rather than restoring the customer receivable in the simple case.
- Forcing adjusted sides to agree without tracing items.
- Letting the cash custodian prepare and approve the reconciliation.
- Claiming separation makes collusion, override, error, or cyber compromise impossible.
Guided practice
A $250 imprest petty-cash fund has $38 cash and approved receipts: delivery $74, office supplies $65, cleaning $42, and transit $28.
- Reconcile the fund.
- Calculate the replenishment cheque.
- Prepare the replenishment entry.
- Name three controls.
Independent practice
Bank statement $9,740; deposit outstanding $1,360; outstanding payments $920; bank incorrectly deducted another customer's $110 cheque; books $10,515; service fee $35; bank collected $1,000 note plus $20 interest for the business; customer cheque $210 NSF.
Prepare both sides and the book entries. Assume the bank will correct its error.
Self-check and solutions
Guided practice: Receipts total $209. Cash + receipts = $38 + $209 = $247, so the fund is $3 short. Replenishment needed to restore $250 is $212. Entry: Dr Delivery Expense $74; Dr Supplies Expense $65; Dr Cleaning Expense $42; Dr Transit Expense $28; Dr Cash Short and Over $3; Cr Cash $212. Controls include one custodian, locked storage, original approved vouchers, spending limits, cancelled receipts, and independent surprise counts.
Independent practice: Bank adjusted = $9,740 + $1,360 − $920 + $110 bank error = $10,290. Book adjusted = $10,515 − $35 + $1,020 − $210 = $11,290, so the supplied facts do not reconcile; there is an unexplained $1,000 difference. Do not plug it. Recheck whether the note collection was already in books or whether another item is missing. If the books were $9,515, both sides would be $10,290 and entries would be Dr Cash $1,020 / Cr Notes Receivable $1,000 / Cr Interest Revenue $20; Dr Bank Charges $35 / Cr Cash $35; Dr A/R $210 / Cr Cash $210. The mismatch is a deliberate control signal.
Retrieval practice
Without notes, list bank-side and book-side reconciling items. Explain the purpose and one limitation of separation of duties.
Exam-style application
A small owner-operated shop cannot fully separate cash custody and recording. Recommend compensating controls.
Answer outline: The owner can review daily sales-to-deposit reports, receive bank alerts directly, inspect receipt-number gaps, approve vendor/payment changes, review images of cleared payments, perform surprise cash counts, and have an outside bookkeeper or independent person reconcile monthly. These controls reduce the concentration risk but do not remove it.
Lesson summary
Strong cash control separates incompatible duties, preserves evidence, and independently compares records. Reconcile both sides, journalize book changes only, and investigate rather than plug.