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CHAPTER SEVEN

CHAPTER SEVEN. ACCOUNTING FOR CASH. CASH. Includes: Currency, coins, and checking accounts Checks received from customers Money orders Bank cashier’s checks Because cash plays such a central role in operating a business, it must be carefully managed and controlled. INTERNAL CONTROL.

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CHAPTER SEVEN

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  1. CHAPTER SEVEN ACCOUNTING FOR CASH

  2. CASH • Includes: • Currency, coins, and checking accounts • Checks received from customers • Money orders • Bank cashier’s checks • Because cash plays such a central role in operating a business, it must be carefully managed and controlled.

  3. INTERNAL CONTROL • A set of procedures designed to: • Safeguard an organization’s assets from • Employee theft, robbery, unauthorized use • Enhance the accuracy and reliability of accounting records by reducing • Risk of errors and irregularities

  4. PRINCIPLES OF INTERNAL CONTROL • Segregation of duties: • the work of one employee should provide a reliable basis for evaluating the work of another employee • Establishment of responsibility: • most effective when only one person is responsible for a given task

  5. PRINCIPLES OF INTERNAL CONTROL Documentation procedures: Documents provide evidence that transactions and events have occurred

  6. Physical, Mechanical, and Electronic Controls

  7. Independent Internal Verification

  8. Independent Internal Verification • Bonding of employees who handle cash • Rotating employee’s duties and requiring employees to take vacations

  9. Limitations of Internal Controls • Cost/Benefit - cost of establishing procedure should not exceed expected benefit • Human element - fatigue, carelessness, indifference • Collusion - two or more individuals who work together to get around controls • Size of business

  10. INTERNAL CONTROL • Other Good internal control for cash transactions: • All cash received should be deposited DAILY in a bank. • All disbursements, except for payments from petty cash, should be made by CHECK.

  11. MAKING DEPOSITS • Deposit Ticket is a form showing • A detailed listing of items being deposited • Currency, coins, and checks are listed separately. • Each check should be identified by its ABA number. • American Bankers Association number • Found in upper right hand corner of check • Also shown in MICR code on the lower left side of front of each check • ABA number is used to sort and route checks.

  12. MAKING DEPOSITS • Endorsements--each check being deposited must be endorsed by the depositor. • Blank endorsement--the depositor simply signs the back of the check. • Check becomes payable to any bearer. • Restrictive endorsement--depositor adds words such as “For deposit,” “Pay to any bank,” or “Pay to Mary Adams only.”

  13. WRITING CHECKS • Check is a document ordering a bank to pay cash from a depositor’s account. • Three parties to every check: • Drawer--the depositor who orders the bank to pay the cash • Drawee--the bank on which the check is drawn • Payee--the person being paid the cash • Business checks often have a check stub.

  14. BANK STATEMENT • Includes: • The balance at the BEGINNING of the period • Deposits and other amounts ADDED during the period • Checks and other amounts SUBTRACTED during the period • The balance at the END of the period

  15. BANK STATEMENT • Sent with bank statement • Canceled checks, “imaged” sheets of check faces, or a listing of checks • Any other forms representing items added to or subtracted from the account

  16. EXAMPLE Bank statement shows a balance of $4,350. But the general ledger account has a balance of $3,800. We need to prepare a BANK RECONCILIATION.

  17. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Heading includes: Name of Company Bank Reconciliation Date

  18. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Reconciliation begins with balance according to the bank statement.

  19. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: Deduct: Reconciling items are listed as additions or subtractions from the bank balance.

  20. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: Deduct: Adjusted Bank Balance Once all reconciling items are listed, the “Adjusted Bank Balance” is computed.

  21. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: Deduct: Adjusted Bank Balance Book balance, October 31 $3,800 Now the reconciliation turns to adjusting the BOOK balance.

  22. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: Deduct: Adjusted Bank Balance Book balance, October 31 $3,800 Add: Additions and subtractions will be made to the book balance. Deduct:

  23. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: Deduct: Adjusted Bank Balance Book balance, October 31 $3,800 Add: “Adjusted book balance” is computed. Deduct: Adjusted Book Balance

  24. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: We say it is “reconciled” when the Adjusted BANK and Adjusted BOOK balances agree. Deduct: Adjusted Bank Balance Book balance, October 31 $3,800 Add: Deduct: Adjusted Book Balance

  25. REASONS FOR DIFFERENCES • Outstanding checks • Checks that have not been presented to the bank for payment • Deposits in transit • Deposits that have not reached the bank or been recorded by the bank before the statement is prepared • Service charges • E.g., check printing and processing, account fees

  26. REASONS continued • Collections • Made by the bank on behalf of the depositor • Not sufficient funds (NSF) checks • Checks deposited but not paid because drawer did not have sufficient funds • Errors • Made by bank or by the depositor in recording cash transactions

  27. BANK RECONCILIATION THREE STEPS:

  28. STEP #1 Identify deposits in transit and related errors. Compare bank statement with: • Last month’s deposits in transit • They should all be on the bank statement. • Deposits listed in the accounting records • If not found on the bank statement, the deposit is considered a deposit in transit. • $ amounts for deposits in the accounting records • If they differ, the error needs to be corrected.

  29. STEP #1 EXAMPLE A deposit in the accounting records of $635, dated October 31, had not been received by the bank. DEPOSIT IN TRANSIT

  30. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit Deduct: DEPOSITS IN TRANSIT are added to the bank balance. Adjusted Bank Balance $3,800 Book balance, October 31 Add: Deduct: Adjusted book balance

  31. STEP #2 Identify outstanding checks and related errors. Compare canceled checks with bank statement and accounting records: • If they differ, error needs to be corrected.

  32. STEP #2 EXAMPLE Check # 862 payable to XYZ Telephone Company was written for $46.25 but was entered on the check stub and on the books as $64.25. $18.00 ERROR

  33. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit $18.00 is added back to the book balance. Deduct: Adjusted Bank Balance Book balance, October 31 $3,800 Error on check #862 Add: 18 Deduct: Adjusted book balance

  34. STEP #2 Identify outstanding checks and related errors. Compare canceled checks with bank statement and accounting records: • If they differ, the error needs to be corrected. • Check mark the stub or accounting records to indicate check has cleared. • Checks written but not cleared are OUTSTANDING CHECKS. • Subtracted from the bank balance on the reconciliation

  35. STEP #2 EXAMPLE Check numbers 890, 892, and 893 do not appear on the bank statement. OUTSTANDING CHECKS

  36. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance Outstanding checks are deducted from the bank balance. $3,800 Book balance, October 31 Add: 18 Error on check #862 Deduct: Adjusted book balance

  37. STEP #3 Identify additional reconciling items. Compare any additions and deductions on the bank statement that are not deposits or checks with the accounting records. • Items ADDED to the account by the bank are CREDIT MEMOS. • Items DEDUCTED from the account by the bank are DEBIT MEMOS.

  38. STEP #3 EXAMPLE Mary used an ATM machine to make a withdrawal from her account of $200 for personal use. However, she forgot to record this withdrawal on the books. Deduct $200 from the book balance.

  39. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,800 Book balance, October 31 Add: 18 Error on check #862 Deduct: Unrecorded ATM withdrawal $200 Adjusted book balance

  40. STEP #3 EXAMPLE The bank returned an NSF check of $350 written by one of Mary’s clients. Deduct $350 from the book balance.

  41. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,800 Book balance, October 31 Add: 18 Error on check #862 Deduct: Unrecorded ATM withdrawal $200 NSF check 350 Adjusted book balance

  42. STEP #3 EXAMPLE The bank deducted $10 from Mary’s account for service charges. Deduct $10 from the book balance.

  43. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,800 Book balance, October 31 Add: 18 Error on check #862 Deduct: Unrecorded ATM withdrawal $200 NSF check 350 Bank service charge 10 Adjusted book balance

  44. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit $4,985 Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,258 Book balance, October 31 $3,800 The Bank section of the reconciliation is totaled. Add: 18 Error on check #862 Deduct: Unrecorded ATM withdrawal $200 NSF check 350 Bank service charge 10 Adjusted book balance

  45. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit $4,985 Then the Book section is totaled. Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,258 Book balance, October 31 $3,800 Add: 18 Error on check #862 $3,818 Deduct: Unrecorded ATM withdrawal $200 NSF check 350 Bank service charge 10 $560 Adjusted book balance $3,258

  46. EXAMPLE We now know that the actual amount of cash is $3,258. But the General Ledger Cash account still shows $3,800. JOURNAL ENTRIES NEEDED

  47. BANK RECONCILIATIONJOURNAL ENTRIES • Only two kinds of items appearing on a bank reconciliation require journal entries: • Errors in the books • Bank additions and deductions that do not already appear in the accounting records • ALL items in the BOOK section of the reconciliation

  48. Mary Adams Consulting Bank ReconciliationOctober 31, 2009 Bank statement balance, October 31 $4,350 Add: $635 Deposit in transit $4,985 These 4 items will require journal entries. Outstanding checks Deduct: No. 890 $598 334 No. 892 No. 893 795 1,727 Adjusted Bank Balance $3,258 Book balance, October 31 $3,800 Add: 18 Error on check #862 $3,818 Deduct: Unrecorded ATM withdrawal $200 NSF check 350 Bank service charge 10 $560 Adjusted book balance $3,258

  49. GENERAL JOURNAL DATE DESCRIPTION DEBIT PR CREDIT Cash 18 00 1 31 Oct. 2 3 When check #862 was written, the Cash account was credited for $18.00 more than the check amount of $46.25. This entry puts $18.00 back in the Cash account. 4 5 6 7 8 9 10 11

  50. GENERAL JOURNAL DATE DESCRIPTION DEBIT PR CREDIT Cash 18 00 1 Oct. 31 2 Telephone Expense 18 00 3 Error on Check #862 4 5 Telephone Expense was originally debited for $64.25. This was $18.00 more than the actual telephone bill of $46.25. This entry removes the extra $18.00. 6 7 8 9 10 11

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