Understanding Suspense Accounts in Accounting and Auditing

Suspense accounts are important for anyone working in accounting and auditing. In this article, we will look at various aspects of suspense accounts, their uses, potential control risks, and indicators of issues related to their use.

What Are Suspense Accounts?

A suspense account is a temporary "waiting account" for unclassified transactions. The account holder uses them to post a journal entry temporarily and postpone judgment about where an amount belongs in the chart of accounts.

There are two primary roles of suspense accounts – temporary parking space for unclassified transactions, and as a "plug" to balance the trial balance.

Temporarily Parking an Unclassified Transaction

Suspense accounts are used to park an "unclassified transaction," which should be temporary only. For example, a junior accountant tasked with booking journal entries related to movements on the bank account has different items to record. One of these items might be an unknown purchase, and in such situations, the accountant temporarily books the amount to a suspense account. When they hear about the purchase, they reclassify the amount from suspense to the specific account.

However, an accounting textbook will tell you that the best balance for a suspense account is zero, with no open items. If there is no formal procedure in place to resolve open items, it can suggest insufficient staffing levels or focus.

Plug Accounts for Balancing the Trial Balance

Suspense accounts are also used to "plug" missing amounts to balance the trial balance. This is necessary because in the subledger books, there are different accounting teams that work on various subledger books, such as payroll, cash, inventory, receivables, etc.

In earlier times, manual bookkeeping, by hand, recording entries in ledger books, was done where summary amounts were transferred into a central place called the general ledger. Because of the manual nature of the process, processing is prone to errors such as writing 51 instead of 15, or accidentally posting a single entry rather than a double entry.

The control mechanism that was put in place is called a trial balance. A trial balance is a list of all general ledger accounts contained in the ledger of a business. A suspense account comes to the rescue when errors causing the imbalance must be found before a profit and loss statement and balance sheet can be produced.

However, incorrect use of suspense accounts can lead to material accounting misstatements. Using suspense accounts incorrectly could be a sign of fraud. As such, controllers and auditors should be wary of their use and ensure the accuracy of financial reports.

How to Recognize a Suspense Account?

In some cases, the word "suspense" is in the account name, but in other cases, other terms may be used. These might include "undistributed debits or undistributed credits. Therefore, it's critical to review a company's complete chart of accounts to identify suspense accounts.

How to Use Suspense Accounts Proactively?

Some companies use suspense accounts as a proactive control mechanism when processing incoming payments from customers. The historical method of processing such payments of using method A involves periodically but infrequently reconciling the receivables amount in the subledger to the amount in the receivables general ledger account.

An alternative method using a suspense account would be method B, where an employee would close an open invoice for a customer in the receivables subledger, and this system feeds the data into the general ledger. If any mistake is made, employees and managers can reconcile the entries.

This method incorporates the four-eyes principle, which means that certain activities must be approved or recorded by at least two people. With today's accounting systems, companies can use subledger codes to simplify this process.

Conclusion

Suspense accounts are necessary for any general ledger system and are used for temporary parking of unclassified transactions or balancing the trial balance. However, their use also poses potential control risks that controllers and auditors must be aware of for financial report accuracy. By understanding all aspects of suspense accounts detailed in this article, companies can use them proactively to prevent financial errors and fraud.