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Payment reconciliation is the core bookkeeping process of matching internal financial records, such as sales invoices or expense receipts, with the corresponding transaction shown in the company’s bank statements. It’s the process by which an organisation accounts for, categorises, and “resolves” its incoming and outgoing payments so that internal bookkeeping records accurately reflect the financial activity of the business.
Payment reconciliation, at a glance:
- Payment reconciliation is an essential component of maintaining accurate financial records.
- In simple terms, payment reconciliation is the act of matching internal financial records with the corresponding records listed in the company’s bank statements.
- Once a tedious manual task, much of the payment reconciliation process can now be automated using accounting software.
- To ensure accuracy, companies should reconcile payments frequently—daily, weekly, or monthly, depending on their size.
- Payment reconciliation (and accurate bookkeeping in general) is crucial for cash flow analysis, financial forecasting, budgeting, tax compliance, and operational decision-making.
How does it work?
1. Record of payment is made internally
Payments, both incoming and outgoing, are recorded internally. This is typically done using accounting software, but could also be as simple as a written list of incoming and outgoing transactions.
2. Record of payment is made externally
When the payment is made, either to or from the business, a record of the payment appears in the business bank account.
3. Internal and external records are matched
Either using automated accounting tools (recommended) or by manually reviewing each transaction, payments recorded internally are matched with the corresponding records shown in the business bank statement.
4. Discrepancies are addressed and resolved
Once internal and external records are matched, bookkeepers review the reconciled payments for discrepancies. Any errors or unresolved payments are investigated and manually matched/recorded until every inbound and outbound payment is accurately accounted for.
Keep in mind that, although it’s helpful (and preferable) to make internal payment records upfront, prior to the transaction appearing in the bank statement, this is not always the order in which payment reconciliation occurs. In certain situations, bookkeepers must work backwards, creating an internal record for a banking transaction that hasn’t been accounted for in advance.
Types of payments for reconciling
In some cases, reconciling payments is simple. For example, an outbound sales invoice for £100 corresponds perfectly with a bank record showing an inbound payment of £100. This is straightforward and the two records are easy to resolve, particularly with the help of automated accounting software.
In other situations, however, payment reconciliation is more complex. For example, if a bank record shows a £100 cash withdrawal, it might be more difficult to determine how the money was spent. Cash withdrawals lack detailed digital records and it’s possible that the cash was used for multiple smaller transactions. You may need to delve into physical receipts, analyse expense logs, and/or ask colleagues if they know how the cash was spent.
It is for reasons like this that, even with automated tools, it is still worthwhile to have a qualified bookkeeper overseeing the payment reconciliation process. This also demonstrates why it’s important for businesses to have an organised system for logging expenses and, if possible, avoid cash payments when an alternative method is available.
Key principles for payment reconciliation
1. Set a regular payment reconciliation schedule
Payment reconciliation is a crucial part of managing a business, as it allows you to review expenses, chase late payments, assess cash flow, and generally analyse your business’s financial health in real-time. This is essential for making informed decisions when running a business.
By setting a frequent payment reconciliation schedule—daily, weekly, or monthly depending on the size of your business—you’re able to stay on top of your business outgoings and avoid unwelcome surprises that might negatively impact operations.
Even if your business chooses to automate payment reconciliation, it’s still important to review reconciled payments and reports routinely, both to ensure the accuracy of the automation and to better understand the financial status of your business.
2. Take advantage of automation tools
Bookkeeping software with automated payment reconciliation has transformed what was once a rather tedious, time-consuming process into a task that resolves itself instantly, in real time. Automated payment reconciliation syncs your business bank account with your bookkeeping software and matches the transactions you’ve recorded internally (e.g., sales invoices and expenses) with those listed in your bank statements.
Automated payment reconciliation tools will also highlight any discrepancies between internal and external records and flag them for you to review manually. Although automated tools can occasionally make mistakes, these are much rarer than the mistakes that occur as the result of human error when manually reconciling accounts. In general, automation is the right option for businesses of all types and sizes.
3. Review and analyse reconciliation reports
Although automated tools may handle much of the payment reconciliation process, businesses must still manually review reconciled payments for accuracy and fix any discrepancies. For example, if your business has invoiced two different organisations for the exact same monetary amount, the automated accounting software may accidentally pair the external bank records with the wrong invoice. If an error like this isn’t manually reviewed and updated, you are left with an inaccurate account of who has paid their invoice and who hasn’t.
In addition to reviewing for small, specific reconciliation errors, manually reviewing your accounts also allows you to assess the broader financial health of your company. It allows you to analyse cash flow, identify spending patterns, make financial forecasts, and plan out your budget.
4. Be strict about receipts and documentation
When it comes to payment reconciliation, the more record-keeping you can do “as you go,” the better. It pays to be meticulous about keeping track of all receipts, invoices, bills, and any other documentation related to transactions made to and from your business. A robust accounting software program can help you establish a system for this.
Storing and tracking all payment-related documentation doesn’t just ensure the accuracy of your books, it also saves you from the headache of tracking down paperwork in the event of an audit or to meet compliance requirements.
5. Seek expert advice and support
Considering the complexities of payment reconciliation (even in the era of automation) and its impact on the overall financial health of your business, seeking expert guidance often saves time and money in the long run. Even businesses with few and/or very straightforward payments benefit from hiring a professional bookkeeper trained in reconciling payments, among other essential bookkeeping tasks.
A qualified and experienced bookkeeper will do more than just reconcile payments. They can also manage payroll, prepare financial reports, send out invoices (accounts receivable), pay bills (accounts payable), and work with your tax accountant to support tax preparation. In smaller businesses, bookkeepers and/or bookkeeping agencies are often hired on a contract basis and paid by the hour. Larger businesses with more complex bookkeeping needs may have an in-house bookkeeper or team of bookkeepers to manage and optimise the company’s accounting practices.
Common payment reconciliation challenges
The advent of automation software has made payment reconciliation much easier, faster, and more accurate than ever before. However, certain traditional challenges persist and some new challenges have emerged.
- Missing documentation - It’s common to encounter external payment records without a corresponding internal record (e.g., an invoice or receipt).
- Banking discrepancies, fees, and delays - Unexpected banking fees can lead to discrepancies between internal records and external bank statements, and delayed transactions can cause confusion during reconciliation.
- Managing different payment methods - The modern financial landscape has more payment methods than ever before. Bookkeepers must track and reconcile payments made by credit card, bank transfer, digital wallet, and cash, all of which have different processing times and digital records.
- Automation errors, misattribution - Automated tools don’t always get it right. It’s not uncommon for an external record to be attributed to the wrong internal record. This leads to discrepancies that require manual intervention to correct.
Talk to an expert about your payment needs today
FAQs
I run a very small business. Do I still need to do payment reconciliation?
Yes, even small businesses that make and receive very few monthly payments still need to routinely reconcile payments in order to keep their books current and understand the financial health of the business. It’s much easier to reconcile payments “as you go” as opposed to letting them pile up and waiting until the end of the tax year to resolve them.
How often should I reconcile my payments?
Automated accounting software syncs with your business bank account and reconciles payments in real-time, as and when a payment leaves or enters your account. Automating the process saves time and effort, but it’s still important to review payments regularly so that you can fix any errors, chase late invoices, and remain up to date on the financial status of the business. For smaller businesses, this may be a monthly task, whereas larger businesses may benefit from resolving payments on a weekly or even daily basis.
How can I automate payment reconciliation for my business?
Most modern accounting software products are set up to automate payment reconciliation. The accuracy and user-friendliness will vary depending on the specific software product, so it’s useful to read reviews, trial demo versions, and consult with your bookkeeper before deciding on accounting software for your business.
As part of the set-up process, you’ll need to connect the accounting software with all of your organisation’s financial accounts (e.g., business bank accounts, investment accounts, credit card accounts, expense reimbursement accounts, etc.). Once this is up and running, the accounting software will automatically match internal records with the corresponding banking transaction.
Automated payment reconciliation works best when a company records and manages all of its financial activity—invoices, expenses, payroll, employee reimbursements, etc. —centrally, using its chosen accounting software.
How do I reconcile cash payments?
Cash payments, both to and from your business, are a perfect example of why businesses can’t rely on automated accounting software alone for managing payment reconciliation. In most cases, cash transactions must be manually recorded within your accounting software. When possible, you should attach any supporting documentation for the cash transaction, such as a sales receipt and/or expense log. If a cash payment is linked to multiple expenses or sales, you must link the bank record with multiple internal records to show a clear breakdown of how the cash was used.
For businesses where cash is a common payment method, such as a cafe or a small retail shop, integrating point-of-sale (POS) systems with accounting software will help streamline the reconciliation process immensely. By automatically capturing and sending transaction data, including cash sales, to your accounting software at the time of each sale, you’ll have records that show the detailed origins of each large cash deposit into your bank account.
How does payment reconciliation impact tax compliance?
Payment reconciliation is crucial to tax compliance. Without properly reconciling payments, you cannot guarantee the accuracy of your company’s books and therefore cannot ensure accurate financial reporting for tax purposes.
Thorough payment reconciliation can help reduce an organisation’s tax liability, as it ensures all deductible expenses are carefully recorded and categorised. If expenses aren’t accurately accounted for, the organisation misses out on opportunities to reduce its taxable income and lower its tax bill.
Careful payment reconciliation will also reduce the likelihood of being audited by tax authorities. In the event that an audit is triggered, accurate payment reconciliation and record-keeping will help resolve any issues and lower the risk of incurring penalties.
How secure are automated payment reconciliation tools?
An established, well-regarded accounting software program is very likely to include robust security features to protect your company’s sensitive financial information from hacking and data theft. However, before you begin with a new accounting software tool, it’s important to do your due diligence and ensure it has the right security measures in place.
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