STUDY OBJECTIVES

After studying this chapter, you should understand:

The Closing ProcessThe Closing Process

The closing process

The post-closing trial balance

The classified balance sheet

Closing entries transfer net income/loss and dividends to retained earnings.

Journalizing and posting closing entries is a required step in the accounting cycle

A temporary account, Income Summary, is used in closing revenue and expense accounts.

THE CLOSING PROCESS

TEMPORARY (NOMINAL) PERMANENT (REAL) These accounts are closed These accounts are not closed

All revenue accounts All asset accounts

All expense accounts All liability accounts

Dividends Equity accounts

TEMPORARY VS. PERMANENT ACCOUNTS

TEMPORARY VS. PERMANENT ACCOUNTS

INCOMESUMMARY

(INDIVIDUAL)REVENUES

12

1 Debit each revenue account for its balance, and credit Income Summary for total revenues.

2 Debit Income Summary for total expenses, and credit each expense account for its balance.

1 Debit each revenue account for its balance, and credit Income Summary for total revenues.

2 Debit Income Summary for total expenses, and credit each expense account for its balance.

(INDIVIDUAL) EXPENSES

CLOSING PROCESSCORPORATION

CLOSING PROCESSCORPORATION

3

3 Debit (credit) Income Summary and credit (debit) Retained Earnings for the amount of net income (loss).

3 Debit (credit) Income Summary and credit (debit) Retained Earnings for the amount of net income (loss).

INCOMESUMMARY

RETAINED EARNINGS

CLOSING PROCESS CORPORATION

CLOSING PROCESS CORPORATION

4

4 Debit retained earnings for the balance in the dividends account and credit dividends for the same amount.4 Debit retained earnings for the balance in the dividends account and credit dividends for the same amount.

RETAINED EARNINGS

DIVIDENDS

CLOSING PROCESS CORPORATION

CLOSING PROCESS CORPORATION

SERVICE REVENUE No. 350Date Explanation Debit Credit Balance

2006 Oct. 31 10,600

–0–

INCOME SUMMARY No. 400Date Explanation Debit Credit Balance

2006 Oct. 31 10,60010,600

10,600

GENERAL JOURNALDate Account Titles and Explanation Ref. Debit Credit

2006 Oct. 31 Service Revenue 400

Income Summary 350 (To close revenue account)

10,60010,600

JOURNALIZINGCLOSING ENTRIES

JOURNALIZINGCLOSING ENTRIES

INCOME SUMMARY No. 350Date Explanation Debit Credit Balance

2006 Oct. 31 10,600 10,600 31 2,860

7,7405,2001,500 900 50 50 40

Date Account Titles and Explanation Ref. Debit Credit2006

Oct. 31 Income Summary 350 Salaries Expense 726 Advertising Supplies Expense 631 Rent Expense 729 Insurance Expense 722 Interest Expense 905 Depreciation Expense 911 (To close expense accounts)

7,740

JOURNALIZINGCLOSING ENTRIES

JOURNALIZINGCLOSING ENTRIES

GENERAL JOURNAL

RETAINED EARNINGS No. 301 Date Explanation Debit Credit Balance Oct 31 2,860 2860

INCOME SUMMARY No. 350 Date Explanation Debit Credit Balance 2006 Oct. 31 10,600 10,600 31 7,740 2,860 31 2,860 –0–

GENERAL JOURNAL

Date Account Titles and Explanation Ref. Debit Credit 2006 (3) Oct. 31 Income Summary 350 Retained Earnings 301 (To close net income to retained earnings)

2,8602,860

JOURNALIZINGCLOSING ENTRIES

JOURNALIZINGCLOSING ENTRIES

Retained Earnings No. 301 Date Explanation Debit Credit Balance 2006 Oct. 31 2860 31 500 2,360

Dividends No. 350 Date Explanation Debit Credit Balance 2006 Oct. 31 500 500 31 500 –0–

Date Account Titles and Explanation Ref. Debit Credit 2006 (4) Oct. 31 Retained Earnings 350 Dividends 301 (To close dividends to retained earnings)

500500

JOURNALIZINGCLOSING ENTRIES

JOURNALIZINGCLOSING ENTRIES

GENERAL JOURNAL

2860

REVIEW QUESTIONCLOSING ENTRIES

REVIEW QUESTIONCLOSING ENTRIES

Which of the following accounts will have a zero balanceafter the closing process?1. Unearned Revenue2. Advertising Supplies3. Prepaid Insurance4. Rent Expense

Which of the following accounts will have a zero balanceafter the closing process?1. Unearned Revenue2. Advertising Supplies3. Prepaid Insurance4. Rent Expense

ANSWER Rent Expense is a temporary account.

All temporary accounts are closed and thushave a zero balance after the closing process.

AFTER CLOSING ENTRIES ARE POSTED1. All temporary accounts have zero balances.2. The balance in retained earnings represents the

accumulated undistributed earnings at the end of the accounting period.

POST-CLOSING ENTRIESPOST-CLOSING ENTRIES

The income summary account is used only in the closing process. No entries are journalized or

posted to this account during the year.

The permanent accounts are not closed.

Depreciation Expense 71140 (2) 40

Interest Expense 90550 (2) 50

Insurance Expense 722

50 (2) 50

Rent Expense 729

900 (2) 900

Advertising SuppliesExpense

631

1500 (2) 1,500

Salaries Expense 7264,000 (2) 5,2001,200

5,200 5,200

2

2

DIVIDENDS 306 500 (4) 500

Retained Earnings

301

(4) 500 0

(3)

2,860

2360

Income Summary 350

(2) 7,740 (1) 10,600(3) 2,860

10,600 10,600

Service Revenue 400

(1) 10,600 10,000400200

10,600 10,600

4

3

1

POSTING CLOSING ENTRIES

POSTING CLOSING ENTRIES

• Prepared after all closing entries have been journalized and posted.

• Purpose is to prove the equality of the permanent account balances.

STUDY OBJECTIVE 3POST-CLOSING TRIAL BALANCE

STUDY OBJECTIVE 3POST-CLOSING TRIAL BALANCE

PIONEER ADVERTISING AGENCY

Post -Closing Trial Balance

October 31, 2006

Debit Credit

Cash 15,200 Accounts Receivable 200 Advertising Supplies 1,000 Prepaid Insurance 550 Office Equipment 5,000 Accumulated Depreciation — Office

Equipment 40

Notes Payable 5,000 Accounts Payable 2,500 Unearned Revenue 800 Salaries Payable 1,200 Interest Payable 50 Common stock

Retained Earnings

10000 2,360

21,950 21,950

The post-closing trial balance is prepared from the permanent accounts in the

ledger.

The post-closing trial balance is prepared from the permanent accounts in the

ledger.

The post-closing trial balance provides evidence that the journalizing and posting of closing entries has been

properly completed.

The post-closing trial balance provides evidence that the journalizing and posting of closing entries has been

properly completed.

$ 21,950 $ 21,950

POST-CLOSING TRIAL BALANCEPOST-CLOSING TRIAL BALANCE

STEPS IN THE ACCOUNTING CYCLESTEPS IN THE ACCOUNTING CYCLE

1 Analyze transactions

2 Journalize transactions

3 Post to ledger

4 Prepare trial balance

5 Journalize & post adjustments

6 Prepare adjusted trial balance

7 Prepare financial statements

8 Journalize & post closing entries

9 Prepare post-closing trial balance

CLASSIFIED BALANCE SHEETCLASSIFIED BALANCE SHEET

A classified balance sheet usually contains the following elements

Intangible assets

Stockholders’ equityProperty, plant & equipment

Long-term liabilitiesLong-term investments

Current liabilitiesCurrent assets

LIABILITIES &

STOCKHOLDERS EQUITY

ASSETS

CURRENT ASSETSCURRENT ASSETS

• Current assets are cash and other resources expected to be realized in cash, sold, or consumed within one year of the balance sheet date or the company’s operating cycle, whichever is longer.

• Listed on B/S in order of liquidity.• Examples:

Cash

Accounts Receivable

Inventory

LONG-TERM INVESTMENTSLONG-TERM INVESTMENTS

• Long-term investments are resources that can be converted to cash.

• Conversion is not expected within one year or the operating cycle, whichever is longer.

• Examples:

10 shares

XYZ stock

Bond Investments

Long-term receivables

Land held for resale

PROPERTY, PLANT & EQUIPMENTPROPERTY, PLANT & EQUIPMENT

• Tangible resources of a relatively permanent nature used in the business and not intended for sale are classified as property, plant, and equipment.

• Examples: EquipmentMachineryBuildings

INTANGIBLE ASSETSINTANGIBLE ASSETS

• Intangible assets are non-current resources lacking physical substance.

• Examples:

Patents

Trademarks

Copyrights

CURRENT LIABILITIESCURRENT LIABILITIES

Obligations expected to be

• paid from existing current assets, or

• by creation of another current liability,

within one year/operating cycle, whichever is longer.

Examples: Accounts Payable

Interest Payable

Wages Payable

LONG-TERM LIABILITIESLONG-TERM LIABILITIES

Obligations expected to be paid after one year.

Examples:Long term notes payable

Bonds payable

Mortgages payable

Lease obligations

• The content of the owner’s equity section varies with the form of business organization.

STOCKHOLDERS’ EQUITYSTOCKHOLDERS’ EQUITY

Owners Capital

Partner 2Capital

Partner 1Capital

Capital StockRetained Earnings

Proprietorship

CorporationPartnership

A classified balance sheet helps the financial statement user determine 1 the availability of assets to meet debts as they come due and 2 the claims of short- and long-term creditors on total assets.

A classified balance sheet helps the financial statement user determine 1 the availability of assets to meet debts as they come due and 2 the claims of short- and long-term creditors on total assets.

PIONEER ADVERTISING AGENCY

Balance Sheet

October 31, 2006

Assets Current assets Cash Accounts receivable Advertising supplies Prepaid insurance Total current assets Property , plant, and equipment Office equipment Less: Accumulated depreciation Total assets

$ 15,200 200 1,000 550 16,950$5,000

40 4,960

$21,910

CLASSIFED BALANCE SHEETCLASSIFED BALANCE SHEET

The balance sheet is most often presented in the report form, with the assets above liabilities and owner’s equity. The balance sheet is most often presented in the report form, with the assets above liabilities and owner’s equity.

CLASSIFED BALANCE SHEETCLASSIFED BALANCE SHEET