Every business and organization implements some accounting procedures to their financial activities. Performing these accounting processes is very important for keeping the records accurate and updated. There are various steps in the accounting cycle, and each of the steps is necessary to maintain the financial documents.
The steps of an accounting cycle are implemented only for a given period, and with the new start of the accounting cycle, the new period began. Some very important and negligible steps in an accounting cycle are the closing entries. It is the process of closing all the accounts for a given period and make preparations for the next cycle. Some people close their accounts after six months, while some work on a yearly procedure. It depends on your convenience and the nature of the business to choose the time for closing the entries.
Keep reading this article to get familiar with some basic knowledge of closing entries within an organization and some important steps in it.
What is a Closing Entry?
We have mentioned that there is an accounting period in every organization. So, whenever an accounting period comes to an end, all of the entries enlisted in a temporary account are transferred to the permanent accounts. Here the data in the temporary accounts are all the entries in the financial statements, which we transfer to the balance sheets.
The whole process of transferring your account data from a temporary record to a permanent one is called a closing entry. If you want to close your entries for a given period successfully, you can hire the best accounting firms in Dubai.
What are Temporary Accounts Types?
A temporary account is an account that contains the entries for a given period. These accounts need to be zero by the end of an accounting period so that the numbers and entries are not mixed with the numbers in the next accounting period. There are usually three types of temporary accounts, which are as follows.
1) Revenues
All of the total earnings and income of a business or organization in a given period are recorded in a revenue account. In temporary accounts, an amount equal to the earnings must be debited to balance them to zero for the next cycle. For example, if the total revenue of a business for a given time is 30,000, then an equal amount needs to be noted on the debit side. This way, your account will be balanced to zero, and make sure you enter your total earnings of 30,000 in the income summary.
2) Expenses
Every business has some expenses in the form of supplies, maintenance operations, and other activities for running the business. By the end of one cycle, these expenses need to be recorded on the temporary accounts. For example, if the total expenses were 10,000, then the same amount will be added to the debit side to make the accounts equal to zero. The amount of 10,000, which is an expense for a given cycle, needs to be recorded in the income summary.
3) Income summary
You will find both the values from the revenue accounts and the expense accounts in the income summary. In this portion, the value of the expense is debited from the value of the revenue to find the income of a given period. Considering the above example, the total income would be equal to 20,000 after subtracting revenue from an expense of 10,000. The income summary is also a temporary account, so we need to make it equal to zero. So, record the total income in your permanent accounts and debit an amount of 20,000 in the income summary to make it zero.
Top 2 Important Steps of Closing Entries
After the entries of the revenue and expenses in the trial balances, you need to perform a few important steps in the closing entries. Without performing these steps, your accounts and income statements will be incomplete.
The following are the two most important steps in the closing entry.
1) Net loss and net profit
If you do not have an income summary record in your temporary accounts, then you need to find the net income and net loss for a given period for closing the entry. Once you find out the total loss and total profit for a given period, you must record them on the balance sheet.
2) Close dividend accounts
Closing the dividends is a very important step, and a dividend is an amount you pay to your investors and shareholders. For closing an entry, you need to write an amount equal to your retained earnings as a dividend in the debit section so that the values are zero. For example, if the retained earnings are 5,000, then you must write a dividend amount equal to 5,000 as debit. So, if you want to close your entries without creating trouble for your next cycle, make sure you hire the experts of the best accounting firms.
Keep Your Accounts Prepared!
It is very important for every organization and business to keep their accounts prepared and updated. Accounts that are not updated always lead to misunderstandings and bad decisions, and you must avoid making bad decisions. Let the experts help you keep your records updated and prepared for every cycle.
FAQ
What is a closing entry?
We have mentioned that there is an accounting period in every organization. So, whenever an accounting period comes to an end, all of the entries enlisted in a temporary account are transferred to the permanent accounts. Here the data in the temporary accounts are all the entries in the financial statements, which we transfer to the balance sheets. The whole process of transferring your account data from a temporary record to a permanent one is called a closing entry.
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