Cash, Bank, and Payment Methods

Learning objectives

By the end of this chapter you will be able to:

• Record common cash, bank, and electronic payment transactions in a cash book and post them to ledger accounts.
• Distinguish clearly between receipts, payments, and internal transfers, including contra entries.
• Account for typical bank-originated items (charges, interest, card settlements, direct debits, standing orders) using correct debits and credits.
• Operate a petty cash imprest system, record vouchers, and calculate the reimbursement required.
• Prepare and explain a bank reconciliation, identifying timing differences and errors, and describing key cash-handling controls.

Overview & key concepts

Cash and bank balances are highly liquid and therefore high-risk. They are central to paying suppliers, collecting from customers, and meeting day-to-day obligations. Because many transactions are initiated by the bank (charges, interest, direct debits) or processed by payment providers (card settlements), the bookkeeping records can drift away from the bank statement unless updated and reconciled regularly.

This chapter focuses on:

• Recordingcash, bank, and non-cash payment collections and payments.
• Classifyingtransactions correctly (income vs receipts, expense vs payments, transfers vs external flows).
• Controllingcash through authorisation, documentation, segregation of duties, and reconciliation.

Cash book and bank ledger

What the cash book does

A cash book records receipts and payments through cash and bank, usually in date order. Different systems use the cash book in different ways, and confusion here can cause double-posting.

One clear rule: choose one model and apply it consistently.

Option A (common in exam questions): Cash book is a book of prime entry

• Enter receipts and payments in the cash book.
• Post the totalsto the general ledgercashandbankaccounts (and to the relevant double-entry accounts such as sales, receivables, payables, expenses).
• In this model, the cash book supports the ledger; it does not replace it.

Option B: Cash book is the ledger account for cash and bank

• The cash book is effectively theCashandBankledger accounts written in a cash-book format.
• Do not post againto separate cash/bank ledger accounts, because the cash book already is that ledger.

In exam-style work, it is usually safest to assume Option A unless told otherwise (especially when the requirement says “record in the cash book and post to the ledger”).

The bank ledger account

The bank ledger account represents the bank balance per the books. After all postings are made and book errors are corrected, the ledger balance should reconcile to the bank statement balance after timing differences.

Receipts, payments, and transfers

Receipts vs income

A receipt is money coming in (cash or bank). It might be:

• income (e.g. a cash sale)
• settlement of an amount already recognised (e.g. a customer paying a prior invoice)
• a source of finance (e.g. a loan received)

The bookkeeping depends on what the receipt relates to, not merely that cash increased.

Payments vs expenses

A payment is money going out. It might be:

• an expense of the period (e.g. rent paid for the month)
• settlement of a liability already recorded (e.g. paying a supplier invoice already recognised)
• repayment of finance (principal is not an expense; interest normally is)

Transfers and contra entries

A transfer between cash and bank does not change total assets. It simply moves value from one asset to another:

• Deposit cash into bank: cash decreases; bank increases.
• Withdraw cash from bank: bank decreases; cash increases.

These are often recorded as contra entries so that the cash book reflects both sides of the movement without creating income or expense.

Common bank-originated and payment-method items

Bank charges

Bank charges are usually operating expenses:

• Dr Bank charges (expense)
• Cr Bank

Interest received

Interest credited by the bank is usually other income:

• Dr Bank
• Cr Interest income

Direct debits and standing orders

These are bank payments made under prior authorisation. Record the underlying expense or liability, with the bank credited. Example for rent:

• Dr Rent expense (or prepaid rent if applicable)
• Cr Bank

Card settlements and fees

Card sales often create a receivable from the card provider (or are included within trade receivables depending on the system). When the provider pays the business:

• the bank increases by the net amount received
• fees are recognised separately as an expense (this is thestandard approach expected in exam questions)
• the receivable is cleared

Typical entry when settlement is net of fees:

• Dr Bank (net amount received)
• Dr Card fees (expense)
• Cr Card receivable / trade receivables (gross amount)

(Real-world presentation can vary, but exam questions almost always expect fees to be shown separately as an expense.)

Petty cash and the imprest system

Purpose

Petty cash exists for small, low-value payments where using the bank is inefficient. Because it is physical cash, strong control is essential.

How imprest works

Under an imprest system, a fixed float is set (for example £200). During the period:

• petty cash is spent only with approved vouchers/receipts
• vouchers are analysed by expense type
• at the reimbursement date, the cashier is reimbursed by exactly the amount spent, restoring petty cash to the original float

If the float is £200 and vouchers total £50, the reimbursement is £50 so that cash on hand returns to £200.

Recording petty cash under an imprest system (recommended exam approach)

Maintain a petty cash ledger account at the fixed float. When petty cash is used, record the vouchers to expense and reduce petty cash. At the reimbursement date, top petty cash back up to the float from the bank.

When petty cash is spent (from vouchers):

• Dr Relevant expense accounts (from voucher analysis)
• Cr Petty cash

When reimbursing the float:

• Dr Petty cash
• Cr Bank

This method keeps the petty cash balance accurate throughout the period and creates a clear audit trail from vouchers to expenses and to the bank top-up.

A simplification used in some businesses is to record only the bank top-up as Dr Expenses / Cr Bank, without tracking petty cash movements during the period. This is less suitable for exam technique because it can obscure why petty cash reduces when vouchers are paid.

Reconciliation and control

Why reconciliation is necessary

The bank statement is prepared by the bank, while the cash book is prepared by the business. Differences arise because:

• the bank processes items the business has not yet recorded (charges, interest, direct debits, standing orders, card settlements)
• some items are recorded by the business but have not cleared the bank by the statement date (outstanding lodgements, unpresented payments)
• errors occur on either side

A bank reconciliation helps confirm completeness, identify errors, and reduce the risk of misuse by requiring independent checking.

Exam-format cues: what goes where

Rule 1: Update the cash book first.
Update for bank-originated items and errors in the books (for example, bank charges not recorded, interest credited, direct debits, standing orders, corrected postings).

Rule 2: Only timing differences go into the reconciliation statement.
Timing differences are items that exist because one side has recorded them but the other has not yet processed them, typically:

• outstanding lodgements (deposits not yet credited by the bank)
• unpresented payments/cheques (payments not yet cleared)

Debit/credit and overdrafts (common presentation confusion)

The bank statement may show a favourable balance (money in the account) or an overdraft (money owed to the bank). In ledger terms:

• Afavourable bank balanceis an asset balance.
• Anoverdraftis a liability balance.

Always follow the question’s convention (e.g. “balance per bank statement”) and be consistent with signs: treat items that increase the bank statement balance as additions, and items that decrease it as deductions.

Standard reconciliation template (mini-format)

Bank reconciliation statement at

Balance per bank statement ........................................ £ X
Add: Outstanding lodgements ..................................... £ X
Less: Unpresented payments/cheques ........................ £ (X)
Balance per cash book (after updating) ............... £ X

(If the template is presented the other way round—starting from the cash book—apply the same logic: add items that increase the other balance and deduct items that reduce it.)

Worked example

Narrative scenario

ABC Retailers records money movements through a cash book and posts to ledger accounts. During January the following occurred:

1. Cash sales of £2,000.
2. Customer payment of £1,500 against an existing invoice.
3. Supplier payment of £800 in settlement of an outstanding supplier balance.
4. Bank charges deducted £20.
5. Interest credited £15.
6. Direct debit for utilities £100.
7. Cash deposited into the bank £500.
8. Petty cash expenses total £50. Petty cash float is £200.
9. Card settlement received £1,200 gross sales proceeds, with provider fees of £30 (net banked £1,170). The £1,200 relates to card sales already recorded earlier as a receivable.
10. Loan proceeds received into bank £5,000.
11. Standing order for rent £600.
12. Unidentified bank receipt £300 (source not yet known).

Required

• Record each transaction with correct double entries.
• Calculate the closing movements on cash and bank (assume opening balances are sufficient and focus on the movements).
• Prepare a bank reconciliation approach for the month-end.
• Explain the impact on profit and on the statement of financial position.

Solution

A. Double entries

Cash sales £2,000

• Dr Cash £2,000
• Cr Sales (revenue) £2,000

Customer payment against invoice £1,500

• Dr Bank £1,500
• Cr Trade receivables £1,500

Supplier payment in settlement £800

• Dr Trade payables £800
• Cr Bank £800

Bank charges £20

• Dr Bank charges (expense) £20
• Cr Bank £20

Interest received £15

• Dr Bank £15
• Cr Interest income £15

Direct debit utilities £100

• Dr Utilities expense £100
• Cr Bank £100

Cash deposited into bank £500 (contra / internal transfer)

• Dr Bank £500
• Cr Cash £500

Petty cash imprest: vouchers total £50; float £200

When petty cash is spent (from vouchers):

• Dr Sundry expenses £50
• Cr Petty cash £50

When reimbursing petty cash from the bank:

• Dr Petty cash £50
• Cr Bank £50

Card settlement: gross £1,200, fee £30, net received £1,170

• Dr Bank £1,170
• Dr Card fees (expense) £30
• Cr Card receivable / trade receivables £1,200

Loan proceeds received £5,000

• Dr Bank £5,000
• Cr Loan payable £5,000

Standing order rent £600

• Dr Rent expense £600
• Cr Bank £600

Unidentified bank receipt £300 (temporary holding account)

• Dr Bank £300
• Cr Unidentified receipts (holding account) £300

This is not recognised as income until the source is confirmed and reclassified.

B. Net movement summary (cash and bank)

Cash movements

• Cash increased by cash sales: +£2,000
• Cash decreased by deposit to bank: −£500
• Net cash movement:+£1,500

Bank movements (net)
Increases:

• Customer payment +£1,500
• Loan proceeds +£5,000
• Cash deposit +£500
• Interest +£15
• Card settlement net +£1,170
• Unidentified receipt +£300
• Total increases:£8,485

Decreases:

• Supplier payment −£800
• Bank charges −£20
• Utilities DD −£100
• Rent SO −£600
• Petty cash reimbursement −£50
• Total decreases:£1,570

Net bank movement: £8,485 − £1,570 = +£6,915

C. Impact on profit (income statement)

Income recognised

• Sales: £2,000
• Interest income: £15

Expenses recognised

• Bank charges: £20
• Utilities: £100
• Rent: £600
• Sundry/petty cash expenses: £50
• Card fees: £30

Net profit impact from listed items
Income £2,015 − Expenses £800 = £1,215 increase in profit

Notes:

• Customer receipts and supplier payments mainly settle balances already recognised; they do not create revenue/expense at the point of payment.
• Loan proceeds do not affect profit; they create a liability.
• The unidentified receipt is not income until identified.

D. Impact on the statement of financial position

• Cash: net increase (movement) of £1,500.
• Bank: net increase (movement) of £6,915.
• Trade receivables / card receivable: decrease by £1,500 (customer payment) and decrease by £1,200 (card settlement) = total decrease £2,700 (assuming balances existed).
• Trade payables: decrease by £800 (supplier payment) assuming the payable existed.
• Loan payable: increase by £5,000.
• Unidentified receipts (holding account): increase by £300 until cleared.
• Equity (retained earnings): increases by the net profit impact (£1,215), all else equal.

E. Bank reconciliation approach (month-end)

Update the cash book first for bank-originated items and any errors in the books (for this scenario: charges, interest, utilities DD, rent SO, card settlement, and the unidentified receipt).

Then prepare the reconciliation statement using only timing differences, such as:

• Outstanding lodgements(recorded in the cash book but not yet credited by the bank statement date)
• Unpresented payments/cheques(recorded in the cash book but not yet cleared by the bank statement date)

Mini-format template (with placeholders):

Balance per cash book (after updating) ...................... £ X
Add: Outstanding lodgements .................................. £ X
Less: Unpresented payments/cheques ..................... £ (X)
Balance per bank statement .................................. £ X

(If the bank statement shows an overdraft, present the balances consistently and treat increases/decreases with care so that additions and deductions move the figure in the correct direction.)

Common pitfalls and misunderstandings

• Double-posting cash/bank: decide whether the cash book is a prime entry book or the ledger account itself, then apply one method consistently.
• Treating internal transfers as income or expense: contra entries change the mix of assets, not profit.
• Recording customer receipts as revenuewhen the sale was already invoiced: receipts reduce receivables, not create sales.
• Recording supplier payments as expenseswhen the expense/purchase was already recognised: payments reduce payables, not create new expense.
• Omitting bank-originated items: charges, interest, standing orders, and direct debits often appear first on the bank statement and must be posted.
• Misposting card settlements: settlements are collections; fees are typically shown separately as an expense in exam questions.
• Treating unidentified receipts as income: use a holding account until identified.
• Weak petty cash discipline: missing vouchers and poor analysis lead to misstated expenses and control failures.
• Reconciling infrequently: unreconciled items accumulate, increasing the chance of error and reducing control.

Summary and further reading

Cash, bank, and electronic payment records must be accurate because they affect both liquidity and reported performance. Correct accounting depends on identifying what each receipt or payment represents: income, expense, settlement of a balance, finance, or an internal transfer. Petty cash should be controlled through an imprest system with clear voucher analysis and reimbursement entries. Bank reconciliation is essential: update the cash book first for bank-originated items and book errors, then reconcile using only timing differences.

FAQ

Why reconcile cash and bank records regularly?

Because the bank statement and the business’s records are created independently. Regular reconciliation confirms completeness, identifies errors and omissions, and highlights unusual items that require investigation.

How does a contra entry affect the financial statements?

A contra entry is an internal transfer between cash and bank. Total assets and profit do not change. Only the composition of assets changes.

What is the imprest system and how does it control petty cash?

It maintains petty cash at a fixed float. When cash is spent, vouchers are recorded to expenses and petty cash is reduced. At reimbursement, petty cash is topped up from the bank to restore the float, creating a clear audit trail.

How should unidentified bank receipts be handled?

Record the receipt into the bank account and credit a holding account. Do not treat it as income until the source is verified, then reclassify to the correct account.

What are common errors with bank charges and interest?

Missing bank charges overstates profit and the bank balance; missing interest understates profit and the bank balance. Both should be posted from the bank statement promptly.

Glossary

Bank charges
Fees deducted by the bank for services or transactions. Usually treated as an operating expense.

Bank ledger account
The general ledger account representing the business’s bank balance per the books.

Bank reconciliation
A structured comparison of the bank statement balance to the bank ledger balance, explaining differences using timing items and identifying errors or omissions.

Card fees
Charges deducted by card providers for processing transactions, normally recognised as an expense.

Card settlement
A deposit from a card provider representing collected card sales, often net of fees. It clears a receivable from the card provider.

Cash book
A record of cash and bank receipts and payments. Depending on the system, it is either a prime entry book posted to the ledger or it functions as the cash/bank ledger itself.

Contra entry
An internal transfer between cash and bank recorded to show both sides of the movement without creating income or expense.

Direct debit
A bank payment collected by a payee under authorisation, commonly used for regular bills.

Imprest system
A petty cash control method where a fixed float is maintained and reimbursed by the value of approved vouchers.

Petty cash
Physical cash held for minor payments and controlled through vouchers and reimbursement.

Petty cash float
The fixed amount of cash held under an imprest system.

Receipt
Money received into cash or bank. It may represent income, settlement of a receivable, or a financing inflow.

Standing order
A regular bank payment initiated by the payer for a fixed amount to a named payee.

Unidentified receipts (holding account)
A temporary account used to hold receipts whose source is not yet confirmed, preventing premature recognition as income.