4 – Completing the Accounting Cycle 4 – Completing the Accounting Cycle After studying this chapter, you should be able to: Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements. Prepare financial statements from adjusted account balances. Prepare closing entries. Describe the accounting cycle. Illustrate the accounting cycle for one period. Explain what is meant by the fiscal year and the natural business year.

Objective 1 - Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements. 4-1 & 4-2 Objective 2 - Prepare financial statements from adjusted account balances.

4-2 A classified balance sheet is a balance sheet that was expanded by adding subsections for current assets; property, plant, and equipment; and current liabilities.

Cash and other assets that are expected to be converted into cash, sold or used up usually within a year or less, through the normal operations of the business are called current assets. 4-2 Cash Accounts Receivable Notes Receivable Supplies Notes receivable are written promises by the customer to pay the amount of the note and possibly interest at an agreed rate.

4-2 Property, plant, and equipment (also called fixed assets) include assets that depreciate over a period of time. Land is an exception as it is not subject to depreciation. Equipment Machinery Buildings Land

Liabilities that will be due within a short time (usually one year or less) and that are to be paid out of current assets are called current liabilities. 4-2 Accounts payable Notes payable Wages payable Interest payable Unearned fees Liabilities not due for a long time (usually more than one year) are long-term liabilities. Notes payable Mortgage payable Bond payable

Jason Corbin, Capital 5. Cash Notes Receivable (due 6. Unearned Rent 4-2 Example The following accounts appear in the adjusted trial balance of Hindsight Consulting. Indicate whether each account would be reported in the (a) current asset; (b) property, plant, and equipment; (c) current liability, (d) long-term liability; or (e) owner’s equity section of the December 31, 2007 balance sheet of Hindsight Consulting. Jason Corbin, Capital 5. Cash Notes Receivable (due 6. Unearned Rent in 6 months) months) Notes Payable (due in 7. Accumulated Depr.— 2009) Equipment 4. Land 8. Accounts Payable

Objective 3 - Prepare closing entries 4-3 Accounts that are relatively permanent from year to year are called real accounts. Accounts that report amounts for only one period are called temporary accounts or nominal accounts.

To report amounts for only one period, temporary accounts should have zero balances at the beginning of the period. At the end of the period the revenue and expense account balances are transferred to Income Summary. 4-3 The balance of Income Summary is then transferred to the owner’s capital account. The balance of the owner’s drawing account is also transferred to the owner’s capital account. The entries that transfer these balances are called closing entries.

4-3 Debit each revenue account for the amount of its balance, and credit Income Summary for the total revenue. Step 1: Fees Earned Bal. 16,840 Income Summary 16,840 Step 1 16,960 Rent Revenue 120 Bal. 120

Miscellaneous Expense 4-3 Wages Expense Bal. 4,525 Bal. 1,600 Bal. 50 Bal. 985 Bal. 2,040 455 200 2,040 985 50 1,600 4,525 Income Summary Rent Expense 9,855 16,960 Depreciation Expense Utilities Expense Step 2 Supplies Expense Debit Income Summary for the total expenses and credit each expense account for its balance. Insurance Expense Bal. 200 Miscellaneous Expense Bal. 455

4-3 Income Summary 9,855 16,960 7,105 Debit Income Summary for the amount of its balance (in this case, the net income) and credit the capital account. Step 3 Chris Clark, Capital Bal. 25,000 Chris Clark, Drawing Bal. 4,000 7,105

4-3 Chris Clark, Capital Bal. 25,000 7,105 Chris Clark, Drawing Bal. 4,000 Debit the capital account for the balance of the drawing account, and credit drawing for the same amount. Step 4 4,000 4,000

4-3 Step 1 Step 2 Step 3 Step 4

4-3 After the closing entries are posted, all of the temporary accounts have zero balances.

Journalize the four entries required to close the accounts. 4-3 Example Exercise After the accounts have been adjusted at July 31, the end of the fiscal year, the following balances are taken from the ledger of Cabriolet Services Co. Terry Lambert, Capital $615,850 Terry Lambert, Drawing 25,000 Fees Earned 380,450 Wages Expense 250,000 Rent Expense 65,000 Supplies Expense 18,250 Miscellaneous Expense 6,200 Journalize the four entries required to close the accounts.

4-3 Example 31 Income Summary 41,000 July 31 Fees Earned 380,450 4-3 Example July 31 Fees Earned 380,450 Income Summary 380,450 31 Income Summary 339,450 Wages Expense 250,000 Rent Expense 65,000 Supplies Expense 18,250 Miscellaneous Expense 6,200 31 Income Summary 41,000 Terry Lambert, Capital 41,000 31 Terry Lambert, Capital 25,000 Terry Labert, Drawing 25,000 For Practice: PE 4-5A, PE 4-5B

Post-Closing Trial Balance Exhibit 7 Post-Closing Trial Balance 4-3 NetSolutions Post-Closing Trial Balance December 31, 2008 Cash 2 065 00 Accounts Receivable 2 720 00 Supplies 760 00 Prepaid Insurance 2 200 00 Land 20 000 00 Office Equipment 1 800 00 Accumulated Depreciation 50 00 Accounts Payable 900 00 Wages Payable 250 00 Unearned Rent 240 00 Chris Clark, Capital 28 105 00 29 545 00 29 545 00

Describe the accounting cycle. 4-4 Objective 4 Describe the accounting cycle.

4-4 The accounting process that begins with analyzing and journalizing transactions and ends with preparing the accounting records for the next period’s transactions is called the accounting cycle. There are ten steps in the accounting cycle. Note – Not all steps are mandatory and in practice a few of the steps are combined

The Accounting Cycle Steps The Accounting Cycle Steps 4-4 Transactions are analyzed and recorded in the journal. Transactions are posted to the ledger. An unadjusted trial balance is prepared. Adjustment data are assembled and analyzed. An optional end-of-period spreadsheet (work sheet) is prepared. Continued

Adjusting entries are journalized and posted to the ledger. 4-4 Adjusting entries are journalized and posted to the ledger. An adjusted trial balance is prepared. Financial statements are prepared. Closing entries are journalized and posted to the ledger. A post-closing trial balance is prepared.

Objective 5 Illustrate the accounting cycle for one period. 4-5 Objective 5 Illustrate the accounting cycle for one period. Refer to the textbook for this extended illustration.

Objective 6 – Explain what is meant by the fiscal year and the natural business year 4-6 The annual accounting period adopted by a business is known as its fiscal year. When a business adopts a fiscal year that ends when business activities have reached the lowest point in its annual operation, such a fiscal year is also called the natural year.