What is payment reconciliation and how does it work?

Ledge Team
March 7, 2023

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Payment reconciliation is a tale as old as time – or at the very least, human civilization. For as long as people have been exchanging goods and services, they’ve been meticulously tracking financial transactions. 

The good news is we’ve come a long way from the days of ancient tally sticks, in which merchants recorded payments by notching cuts into animal bones or pieces of wood. The bad news is that payment reconciliation is more time-consuming and painstaking than ever for finance teams.

Today, finance teams of fast-growing SaaS companies, platforms, and marketplaces must reckon with a high volume of payments from a wide variety of digital sources, each with its own set of rules and regulations. The process of payment reconciliation – and thereby managing cash flows and maintaining control over a company’s overall financial health – has never been so complex or challenging. 

TL;DR – Key takeaways

  • Payment reconciliation is the act of comparing a businesses’ internal payment records with external records to make sure they match in order to catch any errors or discrepancies
  • Payment reconciliation is like brushing your teeth – it’s good financial hygiene that when done regularly, ensures the financial health of a business
  • Finance teams typically do reconciliation on a monthly basis, when they collect all transaction data from payment processor reports, bank statements, ERPs and accounting software, and various third-party tools
  • If there are any discrepancies between internal and external records, the finance team must conduct an investigation, resolve the issue, and document it
  • Reconciliation is mission-critical finance work –  it ensures that the business has accurate financial records, which it needs to properly operate, function, and grow
  • But reconciliation has never been so challenging for finance teams that must tackle an extremely high volume of payments multiplied by the sheer complexity of the payment stack
  • Finance teams spend 40% of their time processing transactions instead of on strategic initiatives and 48% of finance teams report that their largest impediment to closing their books is fragmented data
  • Automated multi-way payment reconciliation tools are critical for finance teams handling a high volume of payments and complex payment stacks 

What is payment reconciliation?

Simply put, payment reconciliation is the act of cross-checking and verifying payment transactions between multiple systems, payment processors, banks, and other financial records to make sure that the company's internal financial picture is an accurate and up-to-date reflection of what’s documented in external records.

Finance teams start with their own internal records, usually the general ledger, which functions as a master record where the business documents money that’s been paid and received. They then match the information that they have on each transaction with external records such as bank statements or credit card reports.

While these internal and external records usually match, sometimes they don’t, and through the process of payment reconciliation, the finance team can identify these discrepancies and ensure that payments are flowing in and out of the business as they should be.

You can think of payment reconciliation as a core habit of good financial hygiene. Just as simple personal hygiene habits such as washing your hands contribute to long-term health when done consistently and regularly, the same is true of how regular and thorough payment reconciliation contributes to an organization’s financial health. 

It's a critical task for finance teams, as it helps to detect and prevent errors, fraud, and discrepancies in payment transactions. In today's digital age, where payment volumes are increasing and payment stacks are becoming more complex, payment reconciliation has increasingly become a core function of finance teams, taking up more time and resources than ever before.

How does payment reconciliation work?

Imagine an online marketplace where consumers can buy and sell antiques online. The business processes thousands of payments per day through various payment processors, banks, and financial systems. 

The company's finance team is responsible for ensuring that all payments going in and out are accurately recorded and reconciled in the company's financial records. To that end, the finance team must follow a payment reconciliation process that involves collecting payment data, identifying and resolving discrepancies, and reconciling payments.

How payment reconciliation works
  1. Collect payments data: First the finance team has to download information from multiple sources in their payments stack, such as reports from payment processors, bank statements, ERPs and accounting software, and various third-party tools. This data includes details such as the payment amount, date, method, and source. 
  2. Match transactions & identify discrepancies: The finance team then compares each internal transaction record with external records to make sure everything matches. Due to the high volume of payments and the complexity of the payment stack, discrepancies often occur. For example, the finance team might discover that a payment recorded in one system was not recorded in another system or that the payment amount is different in different sources.
  3. Investigate payment discrepancies: To resolve these discrepancies, the finance team must conduct a detailed investigation. For instance, they might reach out to the payment processor or bank to gather more information or work with internal teams to identify and correct errors in financial systems. This process can be time-consuming and challenging, especially when dealing with a high volume of payments and a complex payments stack. To add to the sense of urgency, time is often of the essence in investigations – if there has been a credit card chargeback or an ACH reversal, there is usually a limited window of time in which a dispute can be initiated. The longer a team takes in their investigations, the less likely they are to recover money.
  4. Document payment reconciliation: Throughout this process, the finance team must document their work to ensure accuracy and consistency. This documentation is critical for audit purposes and helps to ensure that the payment reconciliation process is performed consistently over time.

While there’s no hard and fast rule about how frequently payment reconciliation must occur, many companies reconcile payments on a monthly basis as part of their financial closing process. This ensures that all payments are accurately recorded for the month and can help to identify and resolve any discrepancies before the financial statements are issued.

Why is payment reconciliation important?

To err is human, which is to say that financial errors can and do happen even for the most detail-oriented teams – duplicate payments, lost invoices, and incorrect amounts are just a few of the issues that teams frequently face. 

And sometimes it’s not an honest mistake – fraud can also account for mismatching records. The Association of Certified Fraud Examiners (ACFE) estimates that the typical organization loses 5% of revenue to fraud each year.

Then there are always disputes, such as credit card chargebacks and ACH reversals which require the finance team to identify and address the issues quickly if they hope to recover the money. All of this is to say that discrepancies can and do happen, and as payments volume grows and the stack becomes more complex, the frequency of errors is increasing all the time.

That’s why payment reconciliation is so mission critical for businesses – identifying these errors in a consistent and systematic way ensures that a business has accurate financial records, which every business needs to properly operate, function, and grow.

Here are a few reasons finance teams must be vigilant about payment reconciliation:

  • Reconciliation is critical for cash flow management: By ensuring that all payments have been properly recorded and reconciled, finance teams can get a more accurate and complete picture of the company's cash flow
  • It’s necessary for auditing: Payment reconciliation is an essential part of the audit process, as auditors use this information to verify the accuracy and completeness of the company's financial records. By reconciling payments, finance teams can provide auditors with accurate and complete records, which supports a successful audit and helps to minimize the risk of errors and discrepancies being found
  • It supports strategic decision-making: Payment reconciliation can help businesses identify trends in their cash flow, such as the timing of payments or the frequency of disputes. This information can be used to make decisions about budgeting, investment, and forecasting
  • Oh, and it’s the law: Regulatory bodies such as the SEC and IRS require companies to maintain accurate and complete financial records. By reconciling payments, finance teams can ensure that their records are accurate and complete, which supports compliance with regulatory requirements and helps to prevent potential fines and penalties

Why payment reconciliation can be so challenging

For fast-growing SaaS companies, marketplaces, and platforms, digital payments are their lifeblood, enabling rapid growth and success. But the sheer volume of payments has become staggering – Insider Intelligence estimated last year that US B2B payment transaction value would exceed $27.542 trillion. Yes – trillion, with a t.

What’s more, the number of payment pathways has skyrocketed. In a bid to stay competitive and relevant, businesses are offering as many ways to pay and get paid as possible. Credit cards and debit cards, mobile payments, e-wallets, peer-to-peer payments, digital payment gateways, and even cryptocurrency have all supplemented traditional payment channels of bank transfers, money orders, wire transfers, checks, and cash.

The higher volume of payments, multiplied by the sheer complexity of the payments stack, spells an exponentially increased workload for finance teams that must reconcile payments every month in order to close the books. 

That’s because payment reconciliation is overwhelmingly done manually – the team must download documents across providers and institutions and match the transactions, line by line. Even the most skilled Excel guru is limited in the number of VBA scripts they can write before the system crashes under the sheer volume of transactions.

The result: finance teams spend 40% of their time processing transactions instead of on strategic initiatives.

48% of finance teams report that their largest impediment to closing their books is fragmented data caused by a lack of communication between the number of payment processors, banks, ERPs, and databases that make up a company’s payments stack.

The importance of automated multi-way payment reconciliation

It’s clear that finance teams, burdened with increasing workloads, are in need of tools that can help them cope with the daily challenges they face in this ever-evolving world of complex payment stacks. Given that around 95% of transactions match without issue, automated reconciliation software can provide huge value for teams that are handling a very large volume of payments. 

Automating the large bulk of these mundane reconciliations gives finance teams in fast-paced companies more time, energy, and resources to properly devote to investigations when discrepancies occur, increasing the likelihood they’ll be able to address the issues that pose a real threat to their business. What’s more, they’ll also have more time to devote to strategic work such as planning and forecasting.

While automated reconciliation software tools do exist, many of them are for non-complex payment stacks, meaning they only do two-sided reconciliation between a company’s bank and internal database/ERP. Those tools don’t work for teams handling a high volume of payments from a wide variety of payment pathways– it leaves the large majority of reconciliation work to still be handled manually. 

These finance teams need an automated reconciliation tool like Ledge that has multi-way automated reconciliation capabilities, supporting the diverse stacks that most businesses now offer and support. 

An effective automated multi-way reconciliation tool would dramatically simplify the day-to-day operations of finance teams, who are more critical than ever to a business’ success. It’s time for finance teams to stop acting as “human glue” holding together a complex stack of ERPs, payment processors, databases, and more, and to turn payments into power.

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