The End of Period Cleanup – Closing the Books
At the end of every official accounting period (as determined by you), you will close out the books so you can start the new period with a clean slate. Every temporary account will be closed out into the equity account(s). The income statement accounts, both revenues and expenses, will all have zero balances until the new period kicks in. Any owner’s drawing accounts, which track the cash you take out of your business for personal use, will follow that same path. As you’ll see, this process (done manually) takes four journal entries.
For the purposes of closing entries, a single-use account is created. It’s usually called the income summary account, but you may never actually see it if you use a computerized accounting system that closes the books automatically at a single click of the mouse. Income summary acts as a momentary holding account, to give a spot to park the balances you intend to close while you sum them up. There’s a good reason why you don’t just close them into the regular accounts: There are a lot of temporary accounts to close, and the entries take up a lot of space. Rather than fill up the pages for an account you may use throughout the period, this huge entry hits only the income summary account, and the summary numbers go to the regular accounts.
To close an account, you make a journal entry for the exact opposite of that account’s balance. For example, if your revenue account has a credit balance of $5,000, you would close it by posting a debit entry for $5,000.
This is what the closing entries would be like for a sole proprietorship. You would write them up in the general journal. Once you post them, the temporary accounts will still exist; they simply will have no balances. After you post these entries, prepare a post-closing trial balance to prove that your general ledger is in balance before you begin the next period.
Closing Entries
Service Revenue: $5,000.00
Income Summary: $5,000.00
To close revenue into income summary.
Income Summary: $3,500.00
Advertising Expense: $500.00
Payroll Expense: $1,500.00
Office Expense: $200.00
Rent Expense: $800.00
Repairs and Maintenance: $300.00
Miscellaneous Expense: $200.00
To close expense accounts into income summary.
Income Summary: $1,500.00
Bob Smith, Equity: $1,500.00
To close income summary to owner’s equity account.
Bob Smith, Equity: $1,000.00
Bob Smith, Drawing: $1,000.00
To close owner’s draw account to owner’s equity.
Make sure to back up your computer files before you set off the closing- the-books process in your accounting software. Once that process starts, you will not be able to retrieve any of the account detail that was there just a minute before. Inevitably, if you don’t have it, you will be sure to need it.