The Closing Process STUDY OBJECTIVES After studying this
The Closing Process STUDY OBJECTIVES After studying this chapter, you should understand: The closing process The post-closing trial The classified balance sheet
THE CLOSING PROCESS 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.
TEMPORARY VS. PERMANENT ACCOUNTS TEMPORARY (NOMINAL) These accounts are closed PERMANENT (REAL) These accounts are not closed All revenue accounts All asset accounts All expense accounts All liability accounts Dividends Equity accounts
CLOSING PROCESS CORPORATION (INDIVIDUAL) EXPENSES 2 1 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.
CLOSING PROCESS CORPORATION 3 RETAINED EARNINGS 3 Debit (credit) Income Summary and credit (debit) Retained Earnings for the amount of net income (loss).
CLOSING PROCESS CORPORATION RETAINED EARNINGS 4 4 Debit retained earnings for the balance in the dividends account and credit dividends for the same amount.
JOURNALIZING CLOSING ENTRIES GENERAL JOURNAL Date 2006 Oct. 1 Date 2006 Oct. 31 Account Titles and Explanation Ref. Service Revenue Income Summary (To close revenue account) 400 350 INCOME SUMMARY Explanation Debit Credit 10, 600 No. 400 Balance 10, 600 Date 2006 Oct. 31 Debit Credit 10, 600 SERVICE REVENUE Explanation Debit 10, 600 Credit No. 350 Balance 10, 600 – 0–
JOURNALIZING CLOSING ENTRIES GENERAL JOURNAL Date 2006 Oct. 31 Account Titles and Explanation Income Summary Salaries Expense Advertising Supplies Expense Rent Expense Insurance Expense Interest Expense Depreciation Expense (To close expense accounts) Date 2006 Oct. 31 31 INCOME SUMMARY Explanation Debit Credit 10, 600 7, 740 Ref. Debit 350 7, 740 726 631 729 722 905 911 No. 350 Balance 10, 600 2, 860 Credit 5, 200 1, 500 900 50 50 40
JOURNALIZING CLOSING ENTRIES GENERAL JOURNAL Date 2006 Oct. 31 31 31 Account Titles and Explanation (3) Income Summary Retained Earnings (To close net income to retained earnings) Ref. Debit 350 301 2, 860 Credit 2, 860 RETAINED EARNINGS No. 301 No. 350 Credit Balance Date Explanation Debit Credit Balance Oct 31 10, 600 7, 740 2, 860 2860 2, 860 – 0– INCOME SUMMARY Explanation Debit
JOURNALIZING CLOSING ENTRIES GENERAL JOURNAL Date 2006 Oct. 31 31 Account Titles and Explanation (4) Retained Earnings Dividends (To close dividends to retained earnings ) Dividends Explanation Debit Credit 500 No. 350 Balance 500 – 0– Date 2006 Oct. 31 31 Ref. 350 301 Debit Credit 500 Retained Earnings Explanation Debit Credit 2860 500 No. 301 Balance 2860 2, 360
REVIEW QUESTION CLOSING ENTRIES Which of the following accounts will have a zero balance after the closing process? 1. Unearned Revenue 2. Advertising Supplies 3. Prepaid Insurance 4. Rent Expense ANSWER Rent Expense is a temporary account. All temporary accounts are closed and thus have a zero balance after the closing process.
POST-CLOSING ENTRIES AFTER CLOSING ENTRIES ARE POSTED 1. All temporary accounts have zero balances. 2. The balance in retained earnings represents the accumulated undistributed earnings at the end of the accounting period. 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.
POSTING CLOSING ENTRIES Salaries Expense 4, 000 (2) 1, 200 5, 200 726 5, 200 (1) 1 2 Advertising Supplies Expense 1, 500 (2) Rent Expense 900 (2) Service Revenue 10, 600 10, 000 400 200 10, 600 631 1, 500 (2) (3) 729 900 Income Summary 7, 740 (1) 10, 600 2, 860 10, 600 350 10, 600 3 Insurance Expense 50 (2) 722 50 2 (4) Retained Earnings 301 500 0 (3) 2, 860 2360 Interest Expense 905 50 (2) 50 4 Depreciation Expense 40 (2) 40 711 DIVIDENDS 500 (4) 306 500 400
STUDY OBJECTIVE 3 POST-CLOSING TRIAL BALANCE • Prepared after all closing entries have been journalized and posted. • Purpose is to prove the equality of the permanent account balances.
POST-CLOSING TRIAL BALANCE PIONEER ADVERTISING AGENCY Post -Closing Trial Balance October 31, 2006 Cash The post-closing trial Accounts Receivable balance is prepared from the Advertising Supplies permanent accounts in the Prepaid Insurance ledger. Office Equipment Accumulated Depreciation — Office Equipment Notes Payable Accounts Payable The post-closing trial balance Unearned Revenue provides evidence that the Salaries Payable journalizing and posting of Interest Payable closing entries has been Common stock properly completed. Retained Earnings Debit 15, 200 1, 000 550 5, 000 21, 950 Credit 40 5, 000 2, 500 800 1, 200 50 10000 2, 360 21, 950 $ 21, 950
STEPS IN THE ACCOUNTING CYCLE 1 2 3 4 5 6 7 8 9 Analyze transactions Journalize transactions Post to ledger Prepare trial balance Journalize & post adjustments Prepare adjusted trial balance Prepare financial statements Journalize & post closing entries Prepare post-closing trial balance
CLASSIFIED BALANCE SHEET A classified balance sheet usually contains the following elements ASSETS Current assets Long-term investments LIABILITIES & STOCKHOLDERS EQUITY Current liabilities Long-term liabilities Property, plant & equipment Stockholders’ equity Intangible assets
CURRENT 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 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: Bond Investments Long-term receivables Land held for resale 10 shares XYZ stock
PROPERTY, 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: Buildings Machinery Equipment
INTANGIBLE ASSETS • Intangible assets are non-current resources lacking physical substance. • Examples: Patents Trademarks Copyrights
CURRENT 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 LIABILITIES Obligations expected to be paid after one year. Examples: Long term notes payable Bonds payable Mortgages payable Lease obligations
STOCKHOLDERS’ EQUITY • The content of the owner’s equity section varies with the form of business organization. Proprietorship Partner 1 Capital Corporation Partner 2 Capital Stock Owners Capital Retained Earnings
CLASSIFED BALANCE SHEET 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 1, 000 550 16, 950 $5, 000 40 4, 960 $21, 910 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.
CLASSIFED BALANCE SHEET The balance sheet is most often presented in the report form, with the assets above liabilities and owner’s equity.
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