Closing Entries

Closing Entries We need to prepare accounts for the next fiscal period (according the time period concept) Some accounts have balances which continue into the next fiscal period and some do not… Can you guess which ones do not?

Real vs. Nominal Accounts Real Accounts (Permanent) Have balances that continue into the next period Nominal (Temporary) Have balances that do not continue into the next period Each nominal account begins a fiscal period with a zero balance These accounts are closed.

Examples Real Accounts (Permanent) Assets Liabilities Capital Nominal Accounts (Temporary) Revenue Expenses Drawings

Closing Out the Nominal Accounts All nominal accounts (revenue, expenses, drawings) balances are moved to capital. This updates the capital figure to show the final equity figure (recall the expanded owner’s equity section on the balance sheet) A new account called “income summary” is used for this process

Eg. Dave’s Molly Maid Service Dave, Drawings $1,500 Dave, Capital $ 50,000 Maid Service Revenue $22,300 Cleaning Supplies Expense $1,000 Vacuum Repairs Expense $1,100 Uniform Cleaning Expense $220

Eg. Dave’s Molly Maid Service Dave, Drawings $1,500 Dave, Capital $ 50,000 Maid Service Revenue $22,300 Cleaning Supplies Expense $1,000 Vacuum Repairs Expense $1,100 Uniform Cleaning Expense $220

Eg. Dave’s Molly Maid Service Closing Entry #1 – Revenues To close out the revenue account for the current period, such that it is zero for the beginning of the following period Dec. 31 Maid Service Revenue 22,300 Income Summary To close the balance of revenue

Eg. Dave’s Molly Maid Service Dave, Drawings $1,500 Dave, Capital $ 50,000 Maid Service Revenue $22,300 Cleaning Supplies Expense $1,000 Vacuum Repairs Expense $1,100 Uniform Cleaning Expense $220

Eg. Dave’s Molly Maid Service Closing Entry #2 – Expenses To zero out all expense accounts, to ensure they are empty for the beginning of the new period Dec. 31 Income Summary 2,320 Cleaning Supplies Expense 1,000 Vacuum Repairs Expense 1,100 Uniform cleaning expense 220 To close the expense accounts

Eg. Dave’s Molly Maid Service Closing Entry #3 – Income (or Loss) To close out the existing balance in income summary Dec. 31 Income Summary 19,980 Dave, Capital To close the income summary account and transfer the net income to capital

Eg. Dave’s Molly Maid Service Dave, Drawings $1,500 Dave, Capital $ 50,000 Maid Service Revenue $22,300 Cleaning Supplies Expense $1,000 Vacuum Repairs Expense $1,100 Uniform Cleaning Expense $220

Eg. Dave’s Molly Maid Service Closing Entry #4 – Drawings By reducing capital by the amount of drawings we are ensuring that the Capital balance is fully representative of the current claims of the owners Dec. 31 Dave, Capital 1,500 Dave, Drawings To close the drawings account and transfer its balance to capital.

What is happening in the ledger? Notice Capital account again reveals what you learned earlier with expanded owner’s equity section Beginning Capital + Net Income – Drawings = Ending Capital f Capital 50,000 Jan 1/13 19,980 Dec 31/13 Dec 31/13 1,500 64,480

Post Closing Trial Balance Last step in the accounting cycle Make sure the debits still match the credits so that you know you have properly closed out all of the nominal accounts into the capital account.

Accounting Cycle Revisited 1. Transaction Occurs 2. Transactions Recorded in Journal 3. Journal Posted to Ledger Accounts 4. Trial Balance & Interim Financial Statements Prepared Accounting Cycle Revisited 6. Formal Financial Statements Prepared 7. Ledger Accounts Adjusted and closed 8. Post Closing Trial Balance 5. Worksheet Prepared

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