Chapter Five

Chapter Five

Closing Entries and the Post-Closing Trial

Balance

Accounting is Fun! 5 - 2

Performance Objectives

1. List the steps in the accounting cycle

2. Journalize and post closing entries for a service enterprise

3. Prepare a post-closing trial balance

4. Define the following methods of accounting: accrual basis and modified cash basis

5. Prepare interim statements


List The Steps In The Accounting Cycle

1. Analyze source documents & record business transactions in a journal

2. Post journal entries to the ledger accounts

3. Prepare a trial balance4. Gather adjustment data and record

adjustments in the work sheet5. Complete the work sheet6. Create financial reports from data in work

sheet7. Journalize and post the adjusting entries8. Journalize and post the closing entries9. Prepare the post-closing trial balance


Closing Entries

• Entries made at the end of a fiscal period to close off the revenue, expense, and drawing accounts—that is, to make the balances of the temporary-equity accounts equal to zero

• Also called clearing the accounts


Purpose of Closing Entries


Purpose of Closing Entries

• To close out balances that relate to one fiscal period and start fresh in the next period

• To zero out the following ledger accounts:– Revenue– Expenses

• To update the owner’s Capital account


Balances on the Financial Statements

Revenue: AssetsIncome from Services $7,270.00 Cash $23,250.00

Expenses: Accounts Receivable 200.00Wages Expense $1,690.00 Prepaid Insurance 330.00Rent Expense 900.00 Equipment $51,500.00Advertising Expense 400.00 Less Accumulated Depreciation 520.00 50,980.00Utilities Expense 160.00 Total Assets $74,760.00

Supplies Expense 540.00Insurance Expense 30.00 LiabilitiesDepreciation Expense, Equipment 520.00 Accounts Payable $4,440.00

Total Expense 4,240.00 Wages Payable 290.00Net Income $3,030.00 Total Liabilities $4,730.00

Owner's EquityL.A. Cruz, Capital 70,030.00Total Liabilities and Owner's Equity $74,760.00

L.A. Cruz, Capital, June 1, 2005 $70,000.00Net Income for June $3,030.00Less Withdrawals for June 3,000.00Increase in Capital 30.00L.A. Cruz, Capital, June 30, 2005 $70,030.00

Cruz Auto Detail Cruz Auto DetailIncome Statement Balance Sheet

For Month Ended June 30, 2005

For Month Ended June 30, 2005 June 30, 2005

Cruz Auto Detail

Statement of Owner's Equity


Revenue - Expenses = Net IncomeNet Income Statement of Owner’s Equity






L.A. Cruz, Capital, June 1, 2005 $70,000.00

Net Income for June $3,030.00

Less Withdrawals for June 3,000.00Increase in Capital 30.00L.A. Cruz, Capital, June 30, 2005 $70,030.00



Cruz Auto Detail




Withdrawals Statement of Owner’s Equity








Less Withdrawals for June 3,000.00

Increase in Capital 30.00L.A. Cruz, Capital, June 30, 2005 $70,030.00



Cruz Auto Detail



From Drawing


Ending Capital Balance Sheet





Owner's Equity

L.A. Cruz, Capital 70,030.00

Total Liabilities and Owner's Equity $74,760.00




Increase in Capital 30.00




Cruz Auto Detail



From Drawing


Revenues, Expenses, & Withdrawals Ending Capital





Owner's Equity






Increase in Capital 30.00




Cruz Auto Detail



From Drawing


Start Fresh for Next Period, July 1 To July 31, 2005

Revenue: AssetsIncome from Services $0.00 Cash $23,250.00

Expenses: Accounts Receivable 200.00Wages Expense $0.00 Prepaid Insurance 330.00Rent Expense 0.00 Equipment $51,500.00Advertising Expense 0.00 Less Accumulated Depreciation 520.00 50,980.00Utilities Expense 0.00 Total Assets $74,760.00


Total Expense 0.00 Wages Payable 290.00Net Income $0.00 Total Liabilities $4,730.00

Owner's Equity



L.A. Cruz, Capital, July 1, 2005 $70,030.00Net Income for July $0.00Less Withdrawals for July 0.00Increase in Capital 0.00L.A. Cruz, Capital, July 31, 2005 $70,030.00

For Month Ended July 31, 2005

For Month Ended July 31, 2005 July 31, 2005

Cruz Auto Detail



All Revenues, Expenses, and Withdrawals from last period are reflected in the Capital account

See all the zeros?


Nominal or Temporary-Equity Accounts

• Accounts that apply to only one fiscal period and that are to be closed at the end of that fiscal period, such as revenue, expense, Income Summary, and Drawing accounts

• May also be described as all accounts except assets, liabilities, and the Capital account


Real or Permanent Accounts

• The accounts that remain open (assets, liabilities, and the Capital account in owner’s equity) and that have balances that will be carried over to the next fiscal period


Let’s Look at Closing with T Accounts

= +

+ - - + - +DR CR DR CR DR CR

- +

+ - - +DR CR DR CR

- +

+ - - +DR CR DR CR

Drawing Capital

Assets Liabilities Owner's Equity

Expenses Revenues

Real Accounts“Permanent Accounts”

Nominal Accounts“Temporary Equity

Accounts”

Closed & Put Here


After Closing

= +

+ - - + - +DR CR DR CR DR CR

+

- +DR CR

Assets Liabilities Owner's Equity

CapitalRevenues, Expenses, DrawingsClosed & Put Here


Closing Using T-Accounts

Closing Procedure1. Close revenue account(s) into Income

Summary

2. Close expense accounts into Income Summary

3. Close Income Summary into Capital

4. Close Drawing into Capital


Income Summary

• An account brought into existence to have a debit and credit for each closing entry– It does not have plus or minus sign, just debits and

credits

• Revenue and expense account balances are transferred to this account to allow calculation of net income and net loss

• Serves as the in-between account, or “holding tank,” before net income or net loss transferred to the Capital account


Step 1: Close Revenue Accounts into Income Summary


Step 2:Close Expense Accounts into Income Summary


Step 3: Close Income Summary into Capital


Step 4: Close Drawing into Capital Account


Closing Entries

• Entries into the journal made at the end of a fiscal period to close off the revenue, expense, and Drawing accounts—that is, to make the balances of the temporary-equity accounts equal to zero

• Closing is also called clearing the accounts


Journalize the Closing Entries

• Close the revenue accounts into Income Summary

• Close the expense accounts into Income Summary

• Close the Income Summary account into the Capital account (transferring net income or net loss to the Capital account)

• Close the Drawing account into CapitalBe sure to label the entries “Closing Entries” before you begin to

enter them into the journal


Journalize Steps 1–2


Journalize Steps 1–4


Closing Hints

• When you want revenue and expense accounts to go to zero:– Create an offsetting debit or credit in Income

Summary to “balance it off”

• When closing Income Summary into Capital:– Net income is a credit to Capital– Net loss is a debit to Capital

• When closing Drawing into Capital:– Drawing is a debit to Capital– Remember: withdrawals are not expenses


Creating Journal Entries Directly from the Work Sheet

• Revenue and expenses come from the Income Statement columns

• Withdrawals come from the Balance Sheet debit column

• Automatic check: if your closing number from Income Summary to Capital is not the same as net income, you made a mistake


Post the Closing Entries

• Revenue, expense, and Drawing accounts should end up with zero balances– Draw a line through both the debit and

credit balance columns to indicate that they have been zeroed and closed

• Capital will more than likely have some net change for the period

Be sure to write “Closing” in the Item column of the ledger account


Posting Step 1 for Arch Copy Co.


Posting Steps 1-3 for Arch Copy Co.


Post-Closing Trial Balance

• The listing of the final balances of the real accounts at the end of the fiscal period

• The opening balances for the next period


Post-Closing Trial Balance

• Accountant uses the post-closing trial balance to make sure that DR = CR– Have you done all the work correctly?


Errors: Post-Closing Trial Balance

• If DR ≠ CR– Columns added correctly?– Correct amounts transferred from the

ledger accounts?– Adjusting entries posted correctly? New

balances correct?– Closing entries posted correctly? New

balances correct?– All nominal accounts closed?


Performance Objective 4

Define the following methods of accounting: accrual basis and modified cash basis


Accrual Basis

• An accounting method under which revenue is recorded when it is earned, regardless of when the cash is received, and expenses are recorded when they are incurred, regardless of when they are paid


Modified Cash Basis

• An accounting method under which revenue is recorded only when it is received as cash

• Most expenses are recorded only when they are paid in cash– However, exceptions are made for

expenditures on items having a useful life of more than one year and for certain prepaid items


Modified Cash Basis Exceptions

• Expenditure for insurance premiums can be prorated, or spread out, over the fiscal periods covered

• Expenditures for long-lived items are recorded as assets and later depreciated as expenses over their useful lives


Interim Statements

• Financial statements prepared during the fiscal year, covering a period of time less than twelve months


Prepare Interim Statements


Prepare Interim Statements

• Accountant prepares financial statements from the work sheet

• Accountant does not journalize and post the adjusting or closing entries until the end of the fiscal year


Demonstration Problem

• On the following page is the completed work sheet for:

• We are going to complete the following tasks:– Journalize the closing entries– Create the post-closing trial balance

Joe's Accounting Service


DR CR DR CR DR CR DR CR

Cash 4,381.00 4,381.00 4,381.00

Accounts Receivable 578.00 578.00 578.00

Prepaid Property Insurance 397.00 a) 200.00 197.00 197.00

Prepaid Auto Insurance 1,138.00 b) 100.00 1,038.00 1,038.00

Equipment 5,713.00 5,713.00 5,713.00

Accumulated Depreciation, Equipment 2,487.00 c) 250.00 2,737.00 2,737.00

Accounts Payable 997.00 997.00 997.00

J. Pham, Capital 5,964.00 5,964.00 5,964.00

J. Pham, Drawing 1,800.00 1,800.00 1,800.00

Professional Fees 8,131.00 8,131.00 8,131.00

Salary Expense 2,000.00 d) 400.00 2,400.00 2,400.00

Advertising Expense 887.00 887.00 887.00

Utilities Expense 685.00 685.00 685.00

17,579.00 17,579.00

Property Insurance Expense a) 200.00 200.00 200.00

Auto Insurance Expense b) 100.00 100.00 100.00

Depreciation Expense, Equipment c) 250.00 250.00 250.00

Salaries Payable d) 400.00 400.00 400.00

950.00 950.00 18,229.00 18,229.00 4,522.00 8,131.00 13,707.00 10,098.00

Net Income 3,609.00 3,609.00

8,131.00 8,131.00 13,707.00 13,707.00

DR

Joe's Accounting ServiceWork Sheet

For The Month Ended June 30, 2003

Adjustments Balance SheetTrial Balance Adjusted Trial Balance Income StatementAccount Name CR


Page J43

DescriptionPost.Ref. Debit Credit

1 Adjusting Entries2 20033 June 30 Property Insurance Expense 650 200.004 Prepaid Property Insurance 160 200.0056 30 Auto Insurance Expense 651 100.007 Prepaid Auto Insurance 161 100.0089 30 Depreciation Expense, Equipment 620 250.00

10 Accumulated Depreciation, Equipment 120 250.001112 30 Salary Expense 615 400.0013 Salaries Payable 230 400.001415 Closing Entries16 30 Professional Fees 8,131.0017 Income Summary 8,131.001819202122232425262728293031

General Journal

Date

Line #

Clo

sing

: Ste

p 1



Cash 4,381.00 4,381.00 4,381.00




Equipment 5,713.00 5,713.00 5,713.00



J. Pham, Capital 5,964.00 5,964.00 5,964.00

J. Pham, Drawing 1,800.00 1,800.00 1,800.00


Salary Expense 2,000.00 d) 400.00 2,400.00 2,400.00



17,579.00 17,579.00





950.00 950.00 18,229.00 18,229.00 4,522.00 8,131.00 13,707.00 10,098.00

Net Income 3,609.00 3,609.00

8,131.00 8,131.00 13,707.00 13,707.00

DR





Clo

sing

: Ste

p 2

Page J43



10 Accumulated Depreciation, Equipment 120 250.001112 30 Salary Expense 615 400.0013 Salaries Payable 230 400.001415 Closing Entries16 30 Professional Fees 8,131.0017 Income Summary 8,131.001819 30 Income Summary 4,522.0020 Salary Expense 2,400.0021 Advertising Expense 887.0022 Utilities Expense 685.0023 Property Insurance Expense 200.0024 Auto Insurance Expense 100.0025 Depreciation Expense, Equipment 250.00262728293031

General Journal

Date

Line #


Clo

sing

: Ste

p 3

Page J43



10 Accumulated Depreciation, Equipment 120 250.001112 30 Salary Expense 615 400.0013 Salaries Payable 230 400.001415 Closing Entries16 30 Professional Fees 8,131.0017 Income Summary 8,131.001819 30 Income Summary 4,522.0020 Salary Expense 2,400.0021 Advertising Expense 887.0022 Utilities Expense 685.0023 Property Insurance Expense 200.0024 Auto Insurance Expense 100.0025 Depreciation Expense, Equipment 250.002627 30 Income Summary 3,609.0028 J. Pham, Capital 3,609.00293031

General Journal

Date

Line #



Cash 4,381.00 4,381.00 4,381.00




Equipment 5,713.00 5,713.00 5,713.00



J. Pham, Capital 5,964.00 5,964.00 5,964.00

J. Pham, Drawing 1,800.00 1,800.00 1,800.00


Salary Expense 2,000.00 d) 400.00 2,400.00 2,400.00



17,579.00 17,579.00





950.00 950.00 18,229.00 18,229.00 4,522.00 8,131.00 13,707.00 10,098.00

Net Income 3,609.00 3,609.00

8,131.00 8,131.00 13,707.00 13,707.00

DR




Check Number for Step 3 Closing Entry


Clo

sing

: Ste

p 4

Page J43



10 Accumulated Depreciation, Equipment 120 250.001112 30 Salary Expense 615 400.0013 Salaries Payable 230 400.001415 Closing Entries16 30 Professional Fees 8,131.0017 Income Summary 8,131.001819 30 Income Summary 4,522.0020 Salary Expense 2,400.0021 Advertising Expense 887.0022 Utilities Expense 685.0023 Property Insurance Expense 200.0024 Auto Insurance Expense 100.0025 Depreciation Expense, Equipment 250.002627 30 Income Summary 3,609.0028 J. Pham, Capital 3,609.002930 30 J. Pham, Capital 1,800.0031 J. Pham, Drawing 1,800.00

General Journal

Date

Line #


Post In Order To Get Information Into Ledger Accounts

Account: Professional Fees Account No: 411

Debit Credit1 20032 June 15 J 40 8,131.00 8,131.00 3456

Line #

BalanceCreditDebit

Post.Ref.Item

General Ledger

Date

Account: Professional Fees Account No: 411

Debit Credit1 20032 June 15 J 40 8,131.00 8,131.00 3 30 Closing J43 8,131.00 456

Line #

BalanceCreditDebit

Post.Ref.Item

General Ledger

Date


Page J43



10 Accumulated Depreciation, Equipment 120 250.001112 30 Salary Expense 615 400.0013 Salaries Payable 230 400.001415 Closing Entries16 30 Professional Fees 411 8,131.0017 Income Summary 8,131.001819 30 Income Summary 4,522.0020 Salary Expense 2,400.0021 Advertising Expense 887.0022 Utilities Expense 685.0023 Property Insurance Expense 200.0024 Auto Insurance Expense 100.0025 Depreciation Expense, Equipment 250.002627 30 Income Summary 3,609.0028 J. Pham, Capital 3,609.002930 30 J. Pham, Capital 1,800.0031 J. Pham, Drawing 1,800.00

General Journal

Date

Line #

Pos

t Ref

eren

ce!


Create Post-Closing Trial Balance

4,381.00578.00197.00

1,038.005,713.00

2,737.00997.00400.00

7,773.0011,907.00 11,907.00

Joe's Accounting ServicePost-Closing Trial Balance

June 30, 2003

CashAccounts ReceivablePrepaid Property InsurancePrepaid Auto Insurance

Accumulated Depreciation, EquipmentEquipment

Accounts PayableSalaries PayableJ. Pham, Capital

Chapter Five

Documents

Transcript of Chapter Five