Today, you’ll learn the risks of not performing bank reconciliations.
There is a fraud risk if there is no bank reconciliation of bank accounts. For example, detection of NSF checks may not be possible at the end of the month. Also, cash disbursements may seem legit, but turn out without authorization.
In the history of fraud, the top accounting scandals look the same. For instance, the inflation of earnings in the income statement depicts a successful business. It is a common tactic, especially in awful public companies, to entice investors. Also, some companies increase the cash balance on balance sheets to appear liquid to investors. Hence, the primary characteristics of deceit in the past appear similar.
Inflating the cash balance can be identified through a bank reconciliation statement. In particular, that report substantiates the cash activity of an entity. It reviews whether the cash balance is legitimate. In general, all cash transactions of an entity are matched with the bank statement to prove the amount of cash. Similarly, preparation of the bank reconciliation statement can also identify uncleared deposits that are long outstanding. In this case, outstanding deposits are deducted from the cash balance. Thus, the overstatement of cash balance can be determined by providing a bank reconciliation report.
Unauthorized payments are disastrous to an entity, so they must be identified. When those transactions have not been immediately detected, the total amount of losses may aggregate. For instance, unofficial cash disbursements can add up to millions of dollars in a company every month. How can the management collect from the persons of interest? In short, not searching for unauthorized cash expenditures is fatal for an organization.
Below are the risks that can occur due to the non-preparation of bank reconciliation statements.
1. Increase bank fees and charges
Bank reconciliation (adjusted method) calculates the adjusted cash balance regularly. The adjusted cash balance is the actual cash balance of an entity that is available for disbursement at the end of the month. The computation is derived through consideration of the reconciling items. Deposits in transit and outstanding checks are added and deducted to the bank statement balance, respectively. Hence, the computing of adjusted cash balance is done in the bank reconciliation statement every month.
A negative balance means an entity has issued more checks than it can disburse. In other words, its management does not know that the cash balance is already spent. Check overdrafts have already occurred in the organization during the month, which leads to bank charges. Obviously, bank fees can increase because of over released of checks.
Conversely, a positive adjusted cash balance is a good indicator of business performance. It means internal control has been in place and cash transactions have been reviewed and controlled.
2. There is no integrity of data between the company’s record and bank’s record.
Financial data is not useful if it is incorrect. First, poor financial decisions will be made, since the information is inaccurate. For example, a company may have foregone an opportunity, believing that funds are not available, NSF checks may have been issued because of incorrect cash balance in the book, and the cash balance may have been overstated because of uncleared check collections.
These uncleared checks can affect the reliability of the income statement, because the revenue has no cash backup and It also understates the balance sheet since the receivables are understated.
3. Affects the accuracy of other assets and liability accounts.
Uncleared check collections affect the reliability of asset accounts in the balance sheet. For example, the collections have not cleared, yet the receivables have been deducted. These transactions are overstating cash and understating receivables.
Similarly, the uncleared check payments likewise affect the liability accounts of an entity. As an example, stale checks understate both cash and payable balances. The payable is understated because the checks are already stale. Recognizing stale checks requires adjusting entries to correct the cash balance.
4. Bank and book errors are not corrected
A bank reconciliation shows the reconciling items in the depositor and bank records. The reconciling items include recording errors, unrecorded transactions, and bank errors. Because there was no bank reconciliation, identification of reconciling items was not possible.
Reconciling items makes financial reports unreliable, especially if the amounts are significant.
5. Victim of fraud
A fraud usually happens when there is an opportunity. For example, no review of cash transactions recorded in an entity’s book. This loophole enables some people to commit crimes given the circumstance.
This opportunity must be eliminated so that fraud can be avoided.
6. Unauthorized disbursements are not identified
Unauthorized disbursements are usually not recorded in the books to hide it. It remains hidden unless a bank reconciliation is prepared.
Bank reconciliation can identify unauthorized transactions through matching transactions in the book and the bank. This process involves identifying disbursements that are not recorded in the depositor’s book.
7. Overstatement or understatement of cash is not detected
In a large company, cash transactions usually range from a thousand to several thousands. Recording errors are usually unavoidable because of the many transactions.
Since errors are unavoidable, overstatements and understatements are usually not identified. Without a bank reconciliation, these errors will never be corrected.
- 4 Reasons a Bank Reconciliation Should Match a Balance Sheet
- 5 Ways a Bank Reconciliation Affects Balance Sheet
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