2.13 Closing Process and Post-Closing Trial Balance

Closing Entries (Steps 8 & 9 of Accounting Cycle)

Step 8: Closing Entries

• The process of closing nominal accounts (revenues, expenses, gains, losses, dividends) to zero.
• A new account, Income Summary, is used to close nominal accounts to Retained Earnings.

Closing Entry Process (5 Steps):

1. Close Credit Balance Accounts to Income Summary:

   • Debit each revenue (or gain) account for its balance.
   • Credit Income Summary for the total.

2. Close Debit Balance Accounts to Income Summary:

   • Credit each expense (or loss) account for its balance.
   • Debit Income Summary for the total.

3. Close Income Summary to Retained Earnings:

   • Debit or Credit Income Summary of its balance.
   • Credit or Debit Retained Earnings for the corresponding amount.
   • A credit balance in Income Summary represents net income.
   • A debit balance in Income Summary represents a net loss.

4. Close Dividends to Retained Earnings:

   • Debit Retained Earnings.
   • Credit Dividends.
   • Dividends are not closed to Income Summary.

5. (If Applicable) Close OCI to AOCI:

   • If Other Comprehensive Income (OCI) items exist, close them to Accumulated Other Comprehensive Income (AOCI).
   • AOCI is an equity account on the balance sheet.

Example: Dusser Company Closing Entries

Given:

• Account balances at the end of the first quarter.

Step 1: Close Revenue Accounts to Income Summary

• Sales Revenue: $500,000$ (Credit balance)
  • Debit Sales Revenue: $500,000$
  • Credit Income Summary: $500,000$

Step 2: Close Expense Accounts to Income Summary

• Sales Discounts: $8,000$ (Debit balance)
• Sales Returns and Allowances: $13,000$ (Debit balance)
• Cost of Goods Sold: $220,000$ (Debit balance)
• Freight Out: $15,000$ (Debit balance)
• Insurance Expense: $5,000$ (Debit balance)
• Rent Expense: $45,000$ (Debit balance)
• Salary Expense: $17,000$ (Debit balance)
  • Credit Sales Discounts: $8,000$
  • Credit Sales Returns and Allowances: $13,000$
  • Credit Cost of Goods Sold: $220,000$
  • Credit Freight Out: $15,000$
  • Credit Insurance Expense: $5,000$
  • Credit Rent Expense: $45,000$
  • Credit Salary Expense: $17,000$
  • Debit Income Summary: $323,000$ (Total of expenses)

Income Summary T-Account

• Credit (from closing revenues): $500,000$
• Debit (from closing expenses): $323,000$
• Balance: $177,000$ (Credit balance, representing net income)

Step 3: Close Income Summary to Retained Earnings

• Given: Beginning Retained Earnings balance of $500,000$
  • Debit Income Summary: $177,000$
  • Credit Retained Earnings: $177,000$

Step 4: Close Dividends to Retained Earnings

• Dividends: $10,000$
  • Debit Retained Earnings: $10,000$
  • Credit Dividends: $10,000$

Ending Retained Earnings Balance

• Beginning Balance: $500,000$
• Add: Net Income (from Income Summary): $177,000$
• Less: Dividends: $10,000$
• Ending Balance: $500,000 + 177,000 - 10,000 = 667,000$

Step 9: Post-Closing Trial Balance

• Prepared after closing entries are completed.
• Nominal accounts (revenues, expenses, gains, losses, dividends) will have zero balances.
• Real accounts (assets, liabilities, equity) will have balances that carry forward to the next period.

Accounting Cycle Review

1. Event Occurs: An event happens.
2. Journal Entry: The event is recorded in the journal.
3. Ledger: Journal entries are posted to individual T-accounts in the ledger.
4. Unadjusted Trial Balance: A trial balance is prepared from the ledger balances.
5. Adjusting Journal Entries: Adjustments are made to account balances.
6. Adjusted Trial Balance: A trial balance is prepared after adjustments.
7. Financial Statements: Financial statements are prepared from the adjusted trial balance.
8. Closing Entries: Nominal accounts are closed to zero.
9. Post-Closing Trial Balance: A final trial balance is prepared with only real accounts having balances.