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Temporary and Permanent Accounts
In financial reporting, certain accounts are labeled as temporary accounts while other are permanent accounts. Understanding this concept is crucial for completing the accounting cycle.
Temporary Accounts
- Reset back to a zero balance at the end of the accounting period
- Includes all revenues, expenses and dividends declared
Permanent Accounts
- Accounts balance at the end of the an accounting period are carried over into the following period
- Includes all assets, liabilities and shareholders' equity accounts
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Closing Entries
Temporary accounts must be reset (closed) at the end of the accounting period, this is done by writing closing entries.
Four Closing Entries
- Close revenues and contra-revenues to Income Summary
- Close expenses to Income Summary
- Close Income Summary to Retained Earnings
- Close Dividends Declared to Retained Earnings
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Post-Closing Trial Balance
The final step in the accounting cycle is preparing the post-closing trial balance which lists the account balances that will be carried over into the next period.
What it looks like
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Example: Closing Entries
Prepare the closing entries using the following income statement.
Journal entry to close revenues
Journal entry to close expenses
Journal entry to transfer income summary to retained earnings
Journal entry to close dividends declared
Practice: Closing Entries
Prepare the closing entries for Wizedemy for the year ended December 31st, 2020. During the year, the company declared $20,000 of dividends.
Journal entry to close revenues
Transactions:
| Account | Debit | Credit |
|---|---|---|