The accounts we've been learning about can be categorized a number of different ways.
We've categorized accounts by which financial statement they're reported on.
We've categorized accounts by whether they are current or long-term.
And now we're gonna learn to categorize accounts a new way - temporary or permanent.
Temporary accounts are closed at the end of the period. Closed means to zero the account balance.
Permanent accounts are unaffected by closing journal entries with the exception of owner's capital.
The income summary account, which is a new account for us, is a transitional account
into which all revenues and expense accounts are transferred at the end of the period.
The net amount transferred equals our net income or net loss.
This account is rarely used by companies but some textbooks still show this method so we want to cover it.
So the closing journal entries is a formal process of moving revenues, expenses, and owner's withdrawals to owner's capital.
You recall very early on that we learned that revenues increase equity while expenses and owners withdrawals
decrease equity.
Up until this point. that has all been conceptual.
When we rthe ecord closing journal entries, this is when those impacts on equity actually happen.
And finally, we close accounts to prepare our accounts to begin the next accounting period with zero balances.
Here's some data from Coca-Cola's 2013 financial statements.
The operating revenue is a temporary account.
The amounts shown are the amounts earned in that year, not the total amount of revenue Coke has ever earned.
So each year revenues are
closed so that Coke can begin tracking revenues for the next year.
Cash, on the other hand, is not closed.
This is the amount of cash Coke had on hand at the end of last year. It wouldn't make sense to
close this account and start the new year with a zero balance in our cash account,
Coke would start the new year with a beginning balance that was last year's ending balance.
So let's look at the adjusted trial balance and learn how to make are closing journal entries.
Here's an example of an adjusted trial balance.
We could've also used the financial statements to make the closing journal entries.
Let's start with service revenue which has a credit balance of $4000.
The first journal entry is to close revenues to income summary.
Since revenues have a $4000 credit balance,
we will debit service revenue to make the balance zero.
Income summary will then be credited.
After posting this entry the balance in service revenue account is zero.
Note that if we would've have more than one revenue account, like rent revenue and interest
revenue, we would've included them in the journal entry like this.
Next, we will close our expense accounts.
The second journal entry is to close expenses to income summary.
We record our expenses separately in the journal entry because each account needs to be zeroed out.
You can see that in the example.
Income summary will then be debited for the total of the expenses.
After posting this journal entry, our expenses will all be zeroed out.
The third closing journal entry is to close income summary to owner's capital.
To do this we need to figure out the ending balance in income summary.
Once we've posted the first two journal entries we can determine the balance in income summary.
The balance should equal our net income. In this case the balance is $700 credit.
So to close income summary we will debit the account $700.
The balance is now zero and it will remain zero until next period when we close our temporary accounts all over again.
The credit is to owner's capital.
The last temporary account to close is owner's withdrawals.
So the final journal entry is to close owner's withdrawals to owner's capital.
Since owner's withdrawal has a $1000 debit balance,
we will credit owner's withdrawals to make the balance is zero. Owner's capital will then be debited.
Note that owner's withdrawals is not an income statement account so it is not closed to income summary first.
Now let's look at the owner's capital account. We started with a credit balance of $9600,
which came from the trial balance.
We increase the account when we closed income summary.
Recall that net income increases equity. This is the journal entry that made that happen.
We decrease accounts when we closed owner's withdrawals.
Recall that owner's withdrawals decrease equity. This is the journal entry that now make that happen.
Finally, we have an ending balance of $9300 credit balance. Let's compare that to the statement of owner's equity.
You can see now that our ledger balance for owner's capital matches what we reported on the statement of owner's equity.
It's like magic, only real.
And that concludes this important video on closing journal entries.