CLOSING ENTRIES

Closing Entries/Transaction
A closing entry is a journal entry made at the end of
the accounting period. It involves shifting data
from temporary accounts on the income statement
to permanent accounts on the balance sheet. All
income statement balances are eventually
transferred to retained earnings.
 Purpose of closing entries
The purpose of the closing entry is to reset the temporary account
balances to zero on the general ledger, the record-keeping
system for a company's financial data. Temporary accounts are
used to record accounting activity during a specific period.
Four Steps in Preparing Closing Entries
1.Close all income accounts to Income Summary.

2.Close all expense accounts to Income Summary.

3.Close Income Summary to the appropriate capital

account.
•Owner’s capital account for sole proprietorship
•Partners’ capital accounts for partnerships, based on ratio
agreed
•Retained earnings for corporations

4.Close withdrawals/distributions to the appropriate capital

account
Closing Entries:Example
GRAY ELECTRONIC REPAIR SHOP
ADJUSTED TRIAL BALANCE
DECEMBER 31,2021
Account Title Debit Credit

Account 7,480.00
Account Receivable 3,700.00
Service Supplies 600.00
Furniture and Fixtures 3,000.00
Service Equipment 16,000.00
Accumulated Depreciation 720.00
Account Payable 9,000.00
Utilities Payable 1,800.00
Mr. Gray,Capital 12,000.00
13,200.00
Mr.Gray, Drawing 7,000.00
Service Revenue
9,850.00
Rent Expense 1,500.00
Salaries Expense 3,500.00
Taxes and License 370.00
Utilities Expense 1,800.00
Service Supplies Expense 900.00
Deprecation Expense 720.00

Total: 46,570.00 46,570.00

Step 1: Close all income accounts to Income
Summary

In the given data, there is only 1 income account, Service

Revenue for the full amount and credit income summary
for the same.The Income Summary account is temporary.It
is used to close income and expenses.As you will see
later, Income summary is eventually closed to capital.
Step 2: Close all expense accounts to
Income Summary

To close expenses, we
simply credit the
expense accounts and
debit Income
Summary.
Step 3: Close Income Summary to
the appropriate capital account
Now for this step, we need to get the balance of the Income Summary
For partnerships, each partners’ capital
account. In step 1, we credited it for 9,850 and debited it in step 2 for
account will be credited based on the
$8,790. It would then have a credit balance of 1,060.Notice that the
agreement of the partnership (for example,
balance of the Income Summary account is actually the net income
50% to Partner A, 30% to B, and 20% to
for the period. Remember that net income is equal to all income
C). For corporations, Income Summary is
minus all expenses.The Income Summary balance is ultimately closed
closed entirely to “Retained Earnings”.
to the capital account.
What if Income Summary had a debit
balance? It means that the company had a
net loss. This is closed by doing the
opposite – debit the capital account
(decreasing the capital balance) and credit
Income Summary.
Step 4: Close withdrawals to the capital account
For sole proprietorships and partnerships:
In a sole proprietorship, a drawing account is maintained to record
all withdrawals made by the owner. In a partnership, a drawing
account is maintained for each partner. All drawing accounts are
closed to the respective capital accounts at the end of the
accounting period.

Our example is a sole proprietorship business. Mr. Gray’s

withdrawals are recorded in Mr. Gray, Drawing. To close the
drawing account to the capital account, we credit the drawing
account and debit the capital account. Notice that drawings
decrease capital.
For corporations:
When dividends are declared by corporations, they are usually recorded by debiting
Dividends Payable and crediting Retained Earnings. Note that by doing this, it is
already deducted from Retained Earnings (a capital account), hence will not require a
closing entry.
However, some corporations use a temporary clearing account for dividends
declared (let's use "Dividends"). They'd record declarations by debiting Dividends
Payable and crediting Dividends. If this is the case, then this temporary dividends
account needs to be closed at the end of the period to the capital account, Retained
Earnings.
Conclusion
The purpose of closing entries is to prepare the temporary accounts
for the next accounting period. In other words, the income and
expense accounts are "restarted".After preparing the closing
entries above, Service Revenue will now be zero. The expense
accounts and withdrawal account will now also be zero.
Effectively, the balances of these accounts have been absorbed
by the capital account – Mr. Gray, Capital, which now has a
balance of 7,260 (13,200 beginning balance + 1,060 in step #3
for net income - 7,000 in step #4 for withdrawals).