Accounting 101: Chapter 6

The asset, liability, and owner's capital accounts appear on all of the following except the:

income statement

Steps in the Closing Process

1) Transfer the balance of the revenue account to the Income Summary account. 2) Transfer the expense account balances to the Income Summary account. 3) Transfer the balance of the Income Summary account to the owner's capital account. 4) Transfer the balance of the drawing account to the owner's capital account.

Identify the accounts below that are ALL permanent accounts.

Accounts Receivable, Accumulated Depreciation, Accounts Payable

Professional Consultants

Professional Consultants Professionals in the consulting field, such as accountants and lawyers, need to understand accounting so they can bill for services performed. Because clients have different billing rates depending on the service performed, specialized software is used to manage the paperwork and keep track of the billings and payments.

Accounting Cycle step 1

Step 1. Analyze transactions. Analyze source documents to determine their effects on the basic accounting equation. The data about transactions appears on a variety of source documents such as: sales slips, purchase invoices, credit memorandums, check stubs.

Accounting Cycle step 9

Step 9. Interpret the financial information. Use financial statements to understand and communicate financial information and to make decisions. Accountants, owners, managers, and other interested parties interpret financial statements by comparing such things as profit, revenue, and expenses from one accounting period to the next.

Postclosing Trial Balance

The eighth step in the accounting cycle is to prepare the postclosing trial balance, or after-closing trial balance. The postclosing trial balance is a statement that is prepared to prove the equality of total debits and credits. It is the last step in the end-of-period routine. The postclosing trial balance verifies that: total debits equal total credits; revenue, expense, and drawing accounts have zero balances. On the postclosing trial balance, the only accounts with balances are the permanent accounts: assets liabilities owner's equity If the postclosing trial balance does not balance, there are errors in the accounting records.

Closing Entries

The seventh step in the accounting cycle is to journalize and post closing entries. Closing entries are journal entries that: transfer the results of operations (net income or net loss) to owner's equity, reduce revenue, expense, and drawing account balances to zero. This example shows the closing process at the end of one month. Usually businesses make closing entries at the end of the fiscal year only.

The Accounting Cycle Steps

Analyze transactions, journalize data about transactions, post the data about transactions, prepare a worksheet, prepare financial statements, record adjusting entries, record closing entries, prepare a postclosing trial balance, interpret the financial information

Remember: expenses

Decrease owners equity

step one: Transfer Revenue Account Balances

On December 31, the worksheet for Eli's Consulting Services shows one revenue account, Fees Income. It has a credit balance of $47,000. To close an account means to reduce its balance to zero. In the general journal, enter a debit of $47,000 to close the Fees Income account. To balance the journal entry, enter a credit of $47,000 to the Income Summary account. This closing entry transfers the total revenue for the period to the Income Summary account and reduces the balance of the revenue account to zero. The analysis of this closing entry is shown below. In this chapter, the visual analyses will show the beginning balances in all T accounts in order to illustrate closing entries. DEBIT Decreases in revenue accounts are recorded as debits. Debit Fees Income for $47,000. CREDIT To transfer the revenue to the Income Summary account, credit Income Summary for $47,000. Write "Closing Entries" in the Description column of the general journal on the line above the first closing entry.

Remember: Revenue

Revenue increases owner's equity.

Flow of Data

Source documents are analyzed. Transactions are recorded in the general journal. Transactions are posted from the general journal to the general ledger. Financial information is proved, adjusted, and summarized on the worksheet. Financial information is reported on financial statements.

Accounting Cycle step 2

Step 2. Journalize the transactions. Record the effects of the transactions in a journal.

Accounting Cycle step 3

Step 3. Post the journal entries. Transfer data from the journal to the general ledger accounts.

Accounting Cycle step 4

Step 4. Prepare a worksheet. At the end of each period, prepare a worksheet. Use the Trial Balance section to prove the equality of debits and credits in the general ledger. Use the Adjustments section to enter changes in account balances that are needed to present an accurate and complete picture of the financial affairs of the business. Use the Adjusted Trial Balance section to verify the equality of debits and credits after the adjustments. Extend the amounts from the Adjusted Trial Balance section to the Income Statement and Balance Sheet sections. Use the Income Statement and Balance Sheet sections to prepare the financial statements

Accounting Cycle step 5

Step 5. Prepare financial statements. Prepare financial statements to report information to owners, managers, and other interested parties. The income statement shows the results of operations for the period. The statement of owner's equity reports the changes in the owner's financial interest during the period. The balance sheet shows the financial position of the business at the end of the period.

Accounting Cycle step 6

Step 6. Record adjusting entries. Use the worksheet to journalize and post adjusting entries. The adjusting entries are a permanent record of the changes in account balances shown on the worksheet.

Accounting Cycle step 7

Step 7. Record closing entries. Journalize and post the closing entries to: transfer net income or net loss to owner's equity; reduce the balances of the revenue, expense, and drawing accounts to zero.

Accounting Cycle step 8

Step 8. Prepare a postclosing trial balance. The postclosing trial balance shows that the general ledger is in balance after the closing entries are posted. It is also used to verify that there are zero balances in revenue, expense, and drawing accounts.

step 2: Transfer Expense Account Balances

The Income Statement section of the worksheet for Eli's Consulting Services lists five expense accounts. Since expense accounts have debit balances, enter a credit in each account to reduce its balance to zero. Debit the total of the expenses, $13,333, to the Income Summary account. This closing entry transfers total expenses to the Income Summary account and reduces the balances of the expense accounts to zero. This is a compound journal entry; it has more than one credit. DEBIT To transfer the expenses to the Income Summary account, debit Income Summary for $13,333. CREDIT Decreases to expense accounts are recorded as credits. Credit Salaries Expense for $8,000, Utilities Expense for $650, Supplies Expense for $500, Rent Expense for $4,000, and Depreciation Expense—Equipment for $183.

The Income Summary Account

The Income Summary account is a special owner's equity account that is used only in the closing process to summarize results of operations. Income Summary has a zero balance after the closing process, and it remains with a zero balance until after the closing procedure for the next period. Income Summary is classified as a temporary owner's equity account. Other names for this account are Revenue and Expense Summary and Income and Expense Summary.

Step 3: TRANSFER NET INCOME OR NET LOSS TO OWNER'S EQUITY

The next step in the closing process is to transfer the balance of Income Summary to the owner's capital account. After the revenue and expense accounts are closed, the Income Summary account has a credit balance of $33,667, which is net income for the month. The journal entry to transfer net income to owner's equity is a debit to Income Summary and a credit to Trayton Eli, Capital for $33,667. When this entry is posted, the balance of the Income Summary account is reduced to zero and the owner's capital account is increased by the amount of net income. DEBIT To reduce Income Summary to zero, debit Income Summary for $33,667. CREDIT Net income increases owner's equity. Increases in owner's equity accounts are recorded as credits. Credit Trayton Eli, Capital for $33,667.

Ninth Step: Interpreting Financial Statements

The ninth and last step in the accounting cycle is interpreting the financial statements. Management needs timely and accurate financial information to operate the business successfully. To interpret the financial statements means to understand and explain the meaning and importance of information in accounting reports. Information in the financial statements provides answers to many questions: What is the cash balance? How much do customers owe the business? How much does the business owe suppliers? What is the profit or loss?

STEP 4: TRANSFER THE DRAWING ACCOUNT BALANCE TO CAPITAL

Withdrawals decrease owner's equity. You will recall that withdrawals are funds taken from the business by the owner for personal use. Withdrawals are recorded in the drawing account. Withdrawals are not expenses of the business. They do not affect net income or net loss. Withdrawals appear in the statement of owner's equity as a deduction from capital. Therefore, the drawing account is closed directly to the capital account. When this entry is posted, the balance of the drawing account is reduced to zero and the owner's capital account is decreased by the amount of the withdrawals. DEBIT Decreases in owner's equity accounts are recorded as debits. Debit Trayton Eli, Capital for $5,000. CREDIT Decreases in the drawing account are recorded as credits. Credit Trayton Eli, Drawing for $5,000.