4 8: Closing Entries Business LibreTexts

Closing entries prepare a company for the next accounting period by clearing any outstanding balances in certain accounts that should not transfer over to the next period. Closing, or clearing the balances, means returning the account to a zero balance. Having a zero balance in these accounts is important so a company can compare performance across periods, particularly with income.

Step 3: Closing the income summary account

To close expenses, we simply credit the expense accounts and debit Income Summary. The fourth entry requires Dividends to close to the RetainedEarnings account. Thebusiness has been operating for several years but does not have theresources for accounting software. This means you are preparing allsteps in the accounting cycle by hand.

• The goal is to make theposted balance of the retained earnings account match what wereported on the statement of retained earnings and start the nextperiod with a zero balance for all temporary accounts.
• Once this has been completed, a post-closing trial balance will be reviewed to ensure accuracy.
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• The records are used to generate reports that tell an owner how much money flows in and out of their business.
• And so, the amounts in one accounting period should be closed so that they won’t get mixed with those in the next period.

What Does It Mean to Close the Books?

• Your closing journal entries serve as a way to zero out temporary accounts such as revenue and expenses, ensuring that you begin each new accounting period properly.
• The goal is to make the posted balance of the retained earnings account match what we reported on the statement of retained earnings and start the next period with a zero balance for all temporary accounts.
• In a partnership, a drawing account is maintained for each partner.
• The net income (NI) is moved into retained earnings on the balance sheet as part of the closing entry process.
• Stockholders’ equity accounts will also maintain their balances.
• Whether you’re processing closing entries manually, or letting your accounting software do the work, closing entries are perhaps the most important part of the accounting cycle.

Permanent accounts are accounts that show the long-standing financial position of a company. These accounts carry forward their balances throughout multiple accounting periods. Now, our temporary accounts have been closed, and the net income of $30,000 has been added to Retained Earnings. The financial statements for the year can now be prepared with these updated figures. Before creating your final report, generate a trial balance, and if things are not adding up, check your work and enter adjusting entries until you are ready to create the final financial statement. Temporary accounts are the type of accounts that must be opened and closed during these reporting cycles.

Step 1 of 3

When dividends are declared by corporations, they are usually recorded by debiting Dividends Payable and crediting Retained Earnings. Note that by doing this, it is already deducted from Retained Earnings (a capital account), hence will not require a closing entry. In a sole proprietorship, a drawing account is maintained to record all withdrawals made by the owner. In a partnership, a drawing account is maintained for each partner. All drawing accounts are closed to the respective capital accounts at the end of the accounting period. Once this is done, it is then credited to the business’s retained earnings.

How Often to Close Accounts in Accounting?

The balances from these temporary accounts have been transferred to the permanent account, retained earnings. Other accounting software, such as Oracle’s PeopleSoft™, post closing entries to a special accounting period that keeps them separate from all of the other entries. So, even though the process today is slightly (or completely) different than it was in the days of manual paper systems, the basic process is still important to understand. After preparing the closing entries above, Service Revenue will now be zero. The expense accounts and withdrawal account will now also be zero.

What are Closing Entries and How to Record them in Accounting?

On the statement of retained earnings, we reported theending balance of retained earnings to be $15,190. We need to dothe closing entries to make them match and zero out the temporaryaccounts. The remaining balance in Retained Earnings is $4,565 (Figure 5.6). This is the same figure found on the statement of retained earnings. Notice that the balances in interest revenue and service revenue are now zero and are ready to accumulate revenues in the next period. The Income Summary account has a credit balance of $10,240 (the revenue sum).

• By zeroing out these accounts, companies ensure that they don’t mix transactions from different periods, allowing for accurate financial reporting and analysis.
• The year-end closing is the process of closing the books for the year.
• It’s vital in business to keep a detailed record of your accounts.
• What is the current book value ofyour electronics, car, and furniture?

Notice that the balances in the expense accounts are now zeroand are ready to accumulate expenses in the next period. The IncomeSummary account has a new credit balance of $4,665, which is thedifference between revenues and expenses (Figure5.5). The balance in Income Summary is the same figure as whatis reported on Printing Plus’s Income Statement.

How, when and why do you prepare closing entries?

Once we have made the adjusting entries for the entire accounting year, we have obtained the adjusted trial balance, which reflects an accurate and fair view of the bakery’s financial position. Whether you’re processing closing entries manually, or letting your accounting software do the work, closing entries are perhaps the most important part of the accounting cycle. Instead the balances in these accounts are moved at month-end to either the capital account or the retained earnings account. Corporations will close the income summary account to the retained earnings account. Close the income summary account by debiting income summary and crediting retained earnings. Expense accounts have a debit balance, so you’ll have to credit their respective balances and debit income summary in order to close them.

Closing entry to account for draws taken for the month, for sole proprietors and partnerships. Upgrading to a paid membership gives you access to our extensive collection of plug-and-play Templates designed to power your performance—as well as CFI’s full course catalog and accredited closing entries Certification Programs. Then, just pick the specific date and year you want the closing process to take place, and you’re done! In just a few clicks, the entire financial year closing is streamlined for you. Expert advice and resources for today’s accounting professionals.