Accounting / Bookkeeping Basics: Closing Your Books

'Closing the books' is a common task, and a decent bookkeeping system makes the experience fairly easy. Depending on your business type, this bookkeeping procedure consists of yearly or monthly transactions ensuring that the information recorded is properly classified. Fine-tuning of the entries must be executed with searches for errors.
More significantly, closing the books helps to properly account for your company's financial operations over the year. It displays your business finances in preparation for the next accounting period. New companies in their first year often encounter numerous obstacles at the time of closure due to lack of experience. That being said, strict adherence to the basic procedures outlined in this chapter will help to streamline this task. This chapter walks you through the basics of closing your books seamlessly and effortlessly.

Closing Your Books – What Does it Mean?
'Books' are a company's records of the business, and most importantly, financial transactions. These records are commonly used to generate reports which inform the business owners and investors on the amounts going in and out of their business.
In essence, closing the books indicates that these reports have been completed. These completed reports depict the financial position over a given accounting period — this might be monthly, or for a full year.
The closing process aims to ensure that profits or expenditures from the prior period are not carried forward to the current accounting period, making the estimates misleading. Closing your books annually enables you to develop and implement financial statements that provide all company owners with insight into the financial condition of their companies. Small businesses typically create statements like a balance sheet and an income statement at the end of the year to study and evaluate their business's financial status as they usher in the New Year.
Small business owners need to close their books at the end of the year to file their income tax returns. Closing books correctly always means that the accounting system is in working shape and produces correct statistics that can be included on the tax return. Most businesses also close their books monthly. This method is an effective way to perform monthly tasks such as balancing your bank statement, sending sales tax documents to the state, paying your vendors, and generating consumer statements.

Closing your Books – Your Year-end or Month-end Checklists
This section walks you through the basic procedures that are necessary when closing your books, specifically for a double-entry accounting system since this is the most prevalent method used by small businesses.

From the Journal to the Ledger
The journal serves as the very first takeoff pad for all your transactions. The process involves an analysis of business transactions to determine whether the transaction has a financial impact on the books of the business. This phase begins at the beginning of the accounting process and lasts for the entire period.
After entries have been recorded in the journal, the totals are moved to General Ledger. To close your books, report the amounts of your cash transactions to the appropriate general ledger account with your cash receipts and sales report. Cash payments include all payments made by cash, checks, or through online payment platforms. The same applies to your cash journal, but this time, the cash journal covers those funds that flow into the business and not the cash outflow.
Several small businesses close their books monthly, while others close their books on an annual basis. Closing your books monthly is pretty straight-forward; here, you are expected to include all transactions performed in a given month.
On the other hand, when closing your books annually, you are expected to select all entries spanning the year under consideration.

Summing Up Your Ledger Accounts
Yes, transferring your journal entries to your general ledger account is important, but it does not end there. You also need to find the total of each account in the ledger. The sum of each account serves as a pre-end balance.

Working Out Your Pre-Trial Balance
Next, the pre-end balance from the previous step will be used to create a temporary trial balance. This trial balance presents a quick shot of your business debits and credits at a glance.
A quick tip: The credits and debits must be equal. If they are not equal, there is a problem; you may have to do a thorough review of your books for errors. An easy way to go about this is by comparing and confirming these accounts balances with the help of third-party documents like invoices, receipts, and bank statements.

Adjusting for Unnoticed Transactions
Adjust those entries! Tracking those activities that are not recorded in your journal entries is essential; this is equally known as 'adjusting entries.' They are those entries that occur only at the end of the accounting period and can be used to account for any unnoticed revenue or expenditures for the year. They must be collated in the general ledger before they are transferred to the adjusted trial balance. For instance, if a transaction starts in one accounting period and finishes at a later date, an adjustment to the journal entry is necessary to better account for the transaction.

From the Adjusted Journal to the Trial Balance
The entries you made in your journal must be reflected in your trial balance!
After the adjusting entries have been made, these adjustments must also be recorded in the trial balance. This new trial balance is known as the adjusted trial balance – all debits and credits of a company accounts are recorded as they will appear on the financial statements. Here, you are expected to summarize your general ledger accounts once more to reflect the changed entries from the last stage. Next, find the sum; remember that the total value for credits and debits must be the same. If the values are different, review your books and, of course, update the necessary changes.

Working Out your Financial Statements
After you have adjusted your trial balance, you should be able to work out your financial statement.
For small businesses, in particular, the most commonly used financial statements are the income statement and the balance sheet. This is because most small business financing strategies are primarily done through loan financing, not through stock or shareholder equity.
Generating and preparing financial statements is perhaps one of the most critical phases in the accounting process. Such statements reflect the ultimate intent of the financial reporting system and the accounting system.
Preparing financial statements may be an easy or very complex process depending on the size of the business involved, as well as the business specifications. Such reports can be produced automatically through your accounting software. They provide an analysis of the company's financial condition at the close of the relevant accounting period, regardless of the period under consideration. Generally, they are compiled by the organization's accountant. But you can always decide to organize your financial statement with the help of bookkeeping/accounting software.

Compiling Your Closing Entries
If you are wondering what a closing entry is all about, this should explain it. A closing entry is a journal entry made at the end of the accounting period to switch balances from a temporary account to a permanent account.

Accounts Affected by Closing Entries
Closing entries can affect the following accounts:
- Revenue account
- Expenses accounts
- Dividend accounts

These accounts are temporary, or "nominal" accounts zeroed when closing entries are applied to an accounting system. Closing entries will reset these accounts so that they do not influence the next accounting period. Accounts are not erased; rather, their balances are moved to retained earnings, which is regarded as a permanent account.
Most businesses use the closing entries to adjust the balances of their temporary accounts, which display balances for a single accounting period, to a null value. In so doing, the company transfers these funds into permanent balance sheet accounts. These permanent accounts depict the company's long-standing finances. Let's take a moment to explore what these two types of closing entries entail.
- Temporary Accounts: Temporary accounts are general ledger accounts used to record expenses over a single accounting period. The balance of these accounts will eventually be used to create the statement of revenue at the end of the financial year.
- Permanent Account: On the other hand, permanent accounts are records that display a company's long-standing financial status. Balance sheet accounts, for example, are also known as fixed accounts. Such accounts carry their balance forward during several accounting periods.

Please Take Note: Closing entries are only intended for a temporary account, while permanent accounts will never be closed.

Closing your entry (ies) – Basic procedures
- Close your business income accounts to the Income Summary
- Your expenses or expenditures accounts are equally important. Hence, ensure you close all expense accounts to Income Summary.
- Close the Income Summary of the required capital account
- Close withdrawals made to the capital account(s)

The procedures mentioned above are for small business owners like sole proprietorships and partnerships.
After these processes, zero out the income and expense accounts using closing entries. Closing entries will move the balance of these temporary accounts to permanent accounts. For example, the revenue account is emptied to the retained earnings account.

Working Out Your Final Trial Balance
The Final Trial Balance report details all the individual accounts of a business. Before this stage, all temporary accounts have been zeroed and converted to permanent accounts. The Final Trial Balance will also provide a summary of all permanent accounts that still have balances. In other words, the final balance-sheet trial report will only have balance-sheet accounts because you closed your revenue and expense accounts in the last phase. Also, the overall debits and credits have to align. Once they do, your general account balances are accurate, and you are 100% set for your next accounting cycle!

Reversing Your Entries
Reverse entries are journal entries created by the bookkeeper, and most commonly, the accountant at the outset of a bookkeeping process. It is an optional step in the bookkeeping process and can be skipped in most cases. These entries aim to reverse the changes made in the previous financial reporting period. This is usually used for income and expense accounts with accruals or prepayments in the previous accounting period.
When a reversing entry is not made, the accountant or the bookkeeper in charge must carefully recall the adjusting entries of the last cycle and then report them in the current period together with the revenues and expenses of the current cycle. Reversal entries will smooth the bookkeeping procedures for the bookkeeper because he does not have to recall the exact revenues and expenses that were accumulated and prepaid. This will document the reversing entries to counteract the impact of the adjusting entries that have been made in the previous year. The expenses and sales must be reported when they come in, and the bookkeeper will not have to think about the cumulative prepayments for the current period’s last cycle.
If the bookkeeper does not report such reversals, he will have to recall the parts of the current expenditures already paid for in the preceding cycle. There is indeed a strong likelihood of double-counting some expenses and revenues. The process of creating reversal entries at the outset of an accounting process will ensure that this double- counting mistake is prevented.
Because most accounting is performed using accounting software, this procedure is also largely automated. When reporting an adjusting entry in the preceding year, the bookkeeper is expected to "mark" the entries as they are made. The accounting software will reverse these adjusting entries in the next accounting cycle; hence, the bookkeeper in charge doesn't have to worry about doing so.

To summarize:

You can decide to close your books monthly or yearly, depending on your business type, goal, and objective. The procedures are the same; one involves closing the books monthly while the other involves closing your business books annually.
Once you've concluded every move and reviewed every part of your monthly/year-end rundown, you are good to go! Luckily, this method is made simpler if you are using accounting software.
Once you close your books or create a lock date, users may not be able to change or add transactions that happened before the closing date. Most of the time, the owner of the company will set a password so that only the administrator, accountants, and the bookkeepers can access past transactions. This lets your bookkeeper or accountant perform proper checks to ensure that the information recorded is up-to-date and, if necessary, make suitable corrections.