Example Closing Process Explanation

Moreover, the closing procedure shows that revenue, expense, and dividend accounts are retained earnings subcategories. If the company profits for the year, the retained earnings will come on the debit side of the income summary account. Conversely, if the company bears a loss in the year, it comes on the credit side of the income summary account. Instead of sending a single account balance, it summarizes all the ledger balances in one value. It transfers it to a balance sheet, which gives more meaningful output for investors, and management, vendors, and other stakeholder.

Preparing a Closing Entry

This givesyou the balance to compare to the income statement, and allows youto double check that all income statement accounts are closed andhave correct amounts. If you put the revenues and expenses directlyinto retained earnings, you will not see that check figure. Nomatter which way you choose to close, the same final balance is inretained earnings.

You should recall from your previous materialthat retained earnings are the earnings retained by the companyover time—not cash flow but earnings. Now that we have closed thetemporary accounts, let’s review what the post-closing ledger(T-accounts) looks like for Printing Plus. The expense accounts have debit balances so to get rid of their balances we will do the opposite or credit the accounts. Just like in step 1, we will use Income Summary as the offset account but this time we will debit income summary.

Journalizing and Posting Closing Entries

Theclosing entry will credit Dividends and debit RetainedEarnings.
This balance is then transferred to the retained earnings account in a journal entry like this.
Notice that the balances in interest revenue and service revenueare now zero and are ready to accumulate revenues in the nextperiod.
The remaining balance in Retained Earnings is$4,565 (Figure5.6).
It summarizes income and expenses arising from operating and non-operating activities.
The balance in Income Summary is the same figure as whatis reported on Printing Plus’s Income Statement.

The T-account summary for Printing Plus after closing entriesare journalized is presented in Figure 5.7. Notice that the Income Summary account is now zero and is readyfor use in the next period. The Retained Earnings account balanceis currently a credit of $4,665. Let’s explore each entry in more detail using Printing Plus’sinformation from Analyzing and Recording Transactions and The Adjustment Process as our example.

Also, there are only a handful of transactions each year. This account follows the double-entry system of bookkeeping. If the credit side is greater than the debit side, the company or the individual is said to have been profitable in the assessment period. In contrast, when there is a loss incurred, the debit side has more value than the credit side of the account.

Step 1: Close all income accounts to Income Summary

This means that thecurrent balance of these accounts is zero, because they were closedon December 31, 2018, to complete the annual accounting period. The next and final step in the accounting cycle is to prepare one last post-closing trial balance. After this entry is made, all temporary accounts, including the income summary account, should have a zero balance. Understanding the accounting cycle and preparing trial balancesis a practice valued internationally. The Philippines Center forEntrepreneurship and the government of the Philippines hold regularseminars going over this cycle with small business owners. They arealso transparent with their internal trial balances in several keygovernment offices.

Introduction to the Closing Entries

Notice how only the balance in retained earnings has changed and it now matches what was reported as ending retained earnings in the statement of retained earnings and the balance sheet. In the given data, there is only 1 income account, i.e. To close that, we debit Service Revenue for the full amount and credit Income Summary for the same. Below are the T accounts with the journal entries already posted. We’ll use a company called MacroAuto that creates and installs specialized exhaust systems for race cars. Here are MacroAuto’s accounting records simplified, using positive numbers for increases and negative numbers for decreases instead of debits and credits in order to save room and to get a higher-level view.

The Printing Plusadjusted trial balance for January 31, 2019, is presented inFigure 5.4.
In a partnership, a drawing account is maintained for each partner.
Let us understand the concept of an income summary account with the help of a couple of examples.
Thebalance in the Income Summary account equals the net income or lossfor the period.
It was declared at $1.2 billion or %3.03 for each diluted common share.

Therefore,these accounts still have a balance in the new year, because theyare not closed, and the balances are carried forward from December31 to January 1 to start the new annual accounting period. The next day, January 1, 2019, you get ready for work, butbefore you go to the office, you decide to review your financialsfor 2019. What are your total expenses forrent, electricity, cable and internet, gas, and food for thecurrent year? You have also not incurred any expenses yet for rent,electricity, cable, internet, gas or food.

Whenyou compare the retained earnings ledger (T-account) to thestatement of retained earnings, the figures must match. It isimportant to understand retained earnings is not closed out, it is only updated. RetainedEarnings is the only account that appears in the closing entriesthat does not close.

The new account,Income Summary, will be discussed shortly. Since temporary accounts are already closed at this point, the post-closing trial balance will not include income, expense, and withdrawal accounts. It will only include balance sheet accounts, a.k.a. real or permanent accounts. At the end of the accounting period, all the revenue accounts will be closed by transferring the credit balance to the income summary. It will be done by debiting the revenue accounts and crediting the income summary account.

We see from the adjusted trial balance that our revenue accounts have a credit balance. To make them zero we want to decrease the balance or do the opposite. We will debit the revenue accounts and credit the Income Summary account.

Once all the temporary accounts are closed, the balance in the income summary account should be equal to the net income of the company for the year. The first entrycloses revenue accounts to the Income Summary account. The secondentry closes expense accounts to the Income Summary account. You might be asking yourself, “is the Income Summary accounteven necessary? ” Could we just close out revenues and expensesdirectly into retained earnings and not have this extra temporaryaccount? We could do this, but by having the Income Summaryaccount, you get a balance for net income a second time.

The following video summarizes how to prepare closing entries. Capital One Financial Corporation declared their net income closing entries for the fourth quarter of 2022. It was declared at $1.2 billion or %3.03 for each diluted common share.

So, even though the process today is slightly (or completely) different than it was in the days of manual paper systems, the basic after the second closing entry is posted, income summary is equal to process is still important to understand. And finally, in the fourth entry the drawing account is closed to the capital account. At this point, the balance of the capital account would be 7,260 (13,200 credit balance, plus 1,060 credited in the third closing entry, and minus 7,000 debited in the fourth entry). An adjusted trial balance contains nominal and real accounts. Nominal accounts are those that are found in the income statement, and withdrawals.

What is the current book value ofyour electronics, car, and furniture? Are the value of your assets andliabilities now zero because of the start of a new year? Your car,electronics, and furniture did not suddenly lose all their value,and unfortunately, you still have outstanding debt.

The total debit to income summary should match total expenses from the income statement. Post-closing trial balance - This is prepared after closing entries are made. Its purpose is to test the equality between debits and credits after closing entries are prepared and posted. The post-closing trial balance contains real accounts only since all nominal accounts have already been closed at this stage. At the end of the accounting period, all fees will be closed by transferring the debit to the income summary by crediting the expenses account and debiting the income summary 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. Welcome to AccountingJournalEntries.com, your ultimate resource for mastering journal entries in accounting. Enhance your accounting skills and knowledge with our comprehensive resources tailored for professionals and students alike. Below are journal entries related to closing the Income Summary account.

Example Closing Process Explanation

Preparing a Closing Entry

Journalizing and Posting Closing Entries

Step 1: Close all income accounts to Income Summary

Introduction to the Closing Entries

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