There are many measures that need to be taken towards the end of an accounting period. Adjustments to income statements and balance sheet accounts are of utmost importance. Although automated accounting systems take care of most procedures, it is vital for businesses to understand what exactly happens towards the end of a period. While most of the tasks might be automated, there are always certain aspects that require manual attention. Here are certain vital elements that every business must look after at the time of closing.
Closing the Accounting Period
Temporary Accounts – Income Statement
All revenues and expenses that have occurred in the period must be accounted for in the same period and should not be left to be included later. Both the revenues and expenses are recorded in the same period as defined by the matching principle because, otherwise, your closing income statement would contain anomalies. Ask your vendors to provide you with work in progress figures so that you can include them in the income statement. All of these accounts will be closed at the end of the accounting period, hence, giving them the name temporary accounts.
Knowing how much money you spent to make what you earned will help you make key strategic decisions in the future. You will realize if you need to cut the costs to lower the expenses or increase the price to bulk up the revenues. Whatever the case is, closing temporary accounts is critical for your business operations.
Permanent Accounts – Balance Sheet
Permanent accounts need to be managed actively throughout the accounting period. It is important so that the current capacity of the business can be determined correctly at all times. No balance in the account will go away unless it is written off. Every transaction has to be tracked and adjusted accordingly. While some of these tasks are performed automatically, inventory changes and depreciation need to be adjusted manually. All of your assets must be reevaluated at the end of an accounting period and any changes should be adjusted likewise.
Reconciliation of bank statements is another vital task that needs to be performed before the end as you have to prepare for filing tax returns, too. Amortization of the prepaid assets to determine the value of future payments needs to be completed for a specific accounting cycle. A well-maintained balance sheet allows you to determine the current standing of the business, which is imperative to its success.
The remaining trial balance in each account has to be determined before the end of an accounting period. It helps to ensure that all debit entries are equivalent to credit entries and any anomalies are updated through the adjusted trial balance. The trial balance reports will help you to determine the opening and closing balances of many accounts, which will help you understand the abnormalities in your bookkeeping system and what needs to be addressed.
Typically, your accounting software will perform the closing entries on the books. However, it is vital to understand how the process actually works. An income summary account is created by closing off the revenue and expense accounts. This means that your income statement is wiped clean and is ready to be reused for the next accounting period. The income summary accounted is further closed into a retained earnings account, which is basically represented as equity on your balance sheet. After the tax deductions and everything, the retained earnings are then transferred into the net income account which is distributed among the shareholders as equity.
The wrapping up of an accounting period is indispensable because you never know where the business stands without these closing adjustments. You have all of the information but it is scattered and you cannot make sense out of it unless all of the closing entries are performed for the accounting period. Businesses should use the help of a professional if they are unable to perform these steps on their own because of their significance.
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