Chapter 4: Completing the
Accounting Cycle
ACT 201 LECTURE
BY: MS. ADINA MALIK
Using a Worksheet
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It is a multiple column form used in:
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•
The adjustment process
Preparing financial statements
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It is a working tool, not a permanent accounting record.
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It is neither a journal nor a part of the general ledger.
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It is a five step process.
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Each step is performed in sequence.
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The use of a worksheet is optional.
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Journalizing and posting are done afterwards.
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It provides the financial statements at an earlier date.
Steps in Preparing a Worksheet
Closing Entries
 Closing the books:
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
To make the accounts ready for the next period.
Requires distinguishing between permanent and temporary accounts.
 Temporary accounts: (also known as nominal accounts)


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Relate to a given accounting period.
Closed at the end of the period.
Revenue, expenses and owner’s drawings accounts.
 Permanent accounts: (also known as real accounts)

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Relate to one or more future accounting period.
Balances are carried forward to the next accounting period.
Assets, liabilities and owner’s capital accounts.
Closing Entries
 Temporary account balances are transferred to the permanent owner’s equity
account at the end of the accounting period, by means of closing entries.
 Closing entries produce a zero balance in each temporary account.
 Journalizing and posting closing entries is a required step in the accounting
cycle.
 Done after financial statements are prepared.
 At the end of the accounting period.
 Revenues and expenses accounts are closed to Income Summary, a temporary
account.
 Resulting net income or net loss is then transferred to owner’s capital account.
Closing Entries
 Debit each revenue account for its balance, and credit Income
Summary for total revenues.
 Debit Income Summary for total expenses, and credit each expense
account for its balance.
 Debit Income Summary and credit Owner’s Capital for the amount of
net income.
 Debit Owner’s Capital and credit Owner’s Drawings account for the
balance amount.
Summary of the Accounting Cycle
1. Analyze business transactions
9. Prepare a post-closing
trial balance
8. Journalize and post
closing entries
7. Prepare financial
statements
6. Prepare an adjusted trial
balance
2. Journalize the
transactions
3. Post to ledger accounts
4. Prepare a trial balance
5. Journalize and post
adjusting entries
Correcting Entries: An Avoidable Step
Correcting Entries:
Accountants must make correcting entries when they find errors. If an
entry is posted incorrectly, it needs to be corrected to maintain the
integrity of the ledger and financial reports.
 Correcting entries are unnecessary if the records are error free.
 Correcting entries are made whenever an error is discovered.
 Correcting entries must be posted before closing entries.
Differences between Adjusting & Correcting Entries
Adjusting Entries
Correcting Entries
Adjusting entries are an integral
part of an accounting cycle
Correcting entries are unnecessary
if the records are error free.
Companies journalize and post
adjustments only at the end of the
accounting period.
Companies make correcting
entries whenever they discover an
error.
Adjusting entries always affect at
least one income statement item
and one balance sheet item.
While, correcting entries may
involve any combination of
accounts.
Correcting Entries—An Avoidable Step
Illustration (Case 1): On May 10, Mercato Co. journalized and
posted a $50 cash collection on account from a customer as a debit
to Cash $50 and a credit to Service Revenue $50. The company
discovered the error on May 20.
Incorrect
entry
Cash
Correct
entry
Cash
Correcting
entry
Service revenue
50
Service revenue
50
50
Accounts receivable
Accounts receivable
50
50
50
Correcting Entries—An Avoidable Step
Illustration (Case 2): On May 18, Mercato purchased on account
equipment costing $450. The transaction was journalized and
posted as a debit to Equipment $45 and a credit to Accounts
Payable $45. The error was discovered on June 3,
Incorrect
entry
Equipment
Correct
entry
Equipment
Correcting
entry
Equipment
45
Accounts payable
45
450
Accounts payable
Accounts payable
450
405
405
The Classified Balance Sheet
 Snapshot of the company’s financial position at a point in time.
 Similar assets and similar liabilities are grouped together to improve
understanding.
 Whether the company has enough assets to pay its debts and claims of
short-term & long-term creditors on total assets.
Standard Classifications:
The Classified Balance Sheet
 Current Assets:



Assets that a company expects to convert to cash or use up within one
year.
E.g. cash, short term investments, accounts receivable, closing stock/
inventory, supplies, prepaid expenses, etc.
Usually listed in the order companies expect to convert them into cash/
in order of liquidity.
 Long-Term Investments:


Investment in stocks or bonds of other companies.
Investments in long-term assets such as land or building that a company
is currently not using in its operating activities.
The Classified Balance Sheet
 Property, Plant & Equipment
 Also known as Fixed Assets
 Long useful lives
 Currently used in operating the
business
 E.g. land, buildings, machinery,
equipment, furniture, etc.
 Intangible Assets
 Long lived assets that do not have
physical substance, yet often valuable.
 E.g. goodwill, patent, copyrights,
trademarks, etc.
The Classified Balance Sheet
 Current Liabilities
 Obligations that the company is to pay within the coming year
 Notes payable, accounts payable, interest payable, salaries & wages
payable, taxes payable, etc.
 Current maturities of long-term obligations
 Liquidity: ability to pay obligations expected to be due within the
next year
 Long-term Liabilities
 Obligations that the company expects to pay after one year
 E.g. bonds payable, mortgages payable, long-term notes payable, etc.
The Classified Balance Sheet
 Owner’s Equity
 Also, Stockholder’s Equity.
 Proprietorship: one Capital account
 Partnership: Capital account for each partner
 Corporations: Capital Stock & Retained Earnings
 Retained Earnings: income retained for use in the business
Question 1
The worksheet for Prime International shows the following in the financial
statement columns, as of Dec 31,2011. Owner’s Capital as of Jan 1, 2011 is $
25,000
Other information:


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A. Steven, Drawings $ 7,000
Service Revenue, $ 25,000
Utilities Expense, $ 4,000
Salaries Expense, $ 4,000
Rent Expense, $2,000
Prepare the closing journal entries at the end of the accounting period.
Show the ledger entries for the income summary and owner’s capital
accounts.
Question 2
E4-13
Mason Company has an inexperienced accountant. During the first 2 weeks
on the job, the accountant made the following errors in journalizing
transactions. All entries were posted as made.
1.
A payment on account of $630 to a creditor was debited to Accounts
Payable $360 and credited to Cash $360.
2.
The purchase of supplies on account for $560 was debited to Equipment
$56 and credited to Accounts Payable $56.
3.
A $400 withdrawal of cash for M.Mason’s personal use was debited to
Salaries Expense $400 and credited to Cash $400.
Instructions:
Prepare the correcting entries.
Question 3
Question 4