Chapter Two

Accounting Cycle for Service Businesses

Accounting cycle is the sequence of accounting procedure during a particular period or fiscal year. It
is a chronological order used to record, classify, summarize and report accounting information. The
cycle begins with analyzing and recording of business transactions or journalizing and ends with
preparation of post closing trial balance.
1. Transactions are analyzed and recorded in the journal.
2. Transactions are posted to the ledger.
3. An unadjusted trial balance is prepared.
4. Adjustment data are assembled and analyzed.
5. An optional end-of-period spreadsheet (work sheet) is prepared.
6. Adjusting entries are journalized and posted to the ledger.
7. An adjusted trial balance is prepared.
8. Financial statements are prepared.
9. Closing entries are journalized and posted to the ledger.
10. A post-closing trial balance is prepared

In chapter 1, we recorded transactions related with sole proprietorship using accounting equation
format. However, this format is not efficient or practical for companies that have to record thousands
or millions of transactions daily. As a result, accounting systems are designed to show the increases
and decreases in each accounting equation element as a separate record. This record is called an
account.

2.1 Characteristics of an Account

Account – a form of record that shows increases and decreases in each element of accounting equation
as separate record or a separate record designed to show the increases and decreases in asset, liability
and owners equity. The simplest form of an account is “T” account and it has 3- parts.
1. A title, which is the name of the item recorded in the account.
2. A space for recording increases in the amount of the element.
3. A space for recording decreases in the amount of the element.

Title

Asset Liability + Capital

Left-hand side Right-hand side

Asset = Liability + Capital

Debit side = Credit Side

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Recording transactions in accounts must follow certain rules. For example, increases in assets are
recorded on the debit (left side) of an account. Likewise, decreases in assets are recorded on the
credit (right side) of an account. The excess of the debits of an asset account over its credits is the
balance of the account.

2.2 Classification of Accounts

There are two major groups of an account
A. Statement of Financial Position account
B. Statement of Financial Performance account

Statement of Financial Position accounts - consists assets, liabilities and owner’s equity.

Assets: A resource controlled by the entity as a result of past events and from which future economic
benefits are expected to flow to the entity. Examples assets include accounts receivable, prepaid
expenses (such as insurance), patent rights, copyrights, trademarks, Buildings, Equipment, and land.
Assets can be classified as
 Current assets – Cash and other assets that are expected to be converted to cash or sold or
used up usually within one year or less, through the normal operations of the business are
called current assets. Example account receivable, note receivable, supplies, prepaid
insurance…e.t.c. Notes receivable are amounts that customers owe. They are written promises
to pay the amount of the note and interest. Accounts receivable are also amounts customers
owe, but they are less formal than notes. Accounts receivable normally result from providing
services or selling merchandise on account. Notes receivable and accounts receivable are
current assets because they are usually converted to cash within one year or less.
 Property, Plant and Equipment or plant assets - are physical resources that are controlled
and used by a business and are permanent or have a long life. Examples of fixed assets include
land, buildings, and equipment. In a sense, fixed assets are a type of long-term prepaid
expense. Because of their unique nature and long life, they are discussed separately from other
prepaid expenses, such as supplies and prepaid insurance.

Liabilities are debts of a business owed to outsiders or creditors. Liabilities are often identified on the
statement of financial position by titles that include the word payable. Cash received before services
are delivered creates a liability to perform the services. The two most common classes of liabilities
are;
 Current liabilities – the liabilities that will be due within a short time usually within one year or
less. Example: Account payable, Note payable, Tax payable, interest payable.
 Long term liabilities-liabilities that will not be due for a long time usually more than one year.
Example: bond payable, mortgage payable, Loan Payable.

Owner’s equity - the residual claim of the owner against the assets of the business.
 Capital – accumulated investment by the owner
 Drawing – amount of cash withdrawn by the owner
 Income summary - used to summarize the effects of revenue and expense on capital

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 Statement of Financial Performance accounts - includes revenues and expenses

Revenues are increases in owner’s equity as a result of selling services or products to customers.
Example: fees earned, fares earned, commissions revenue, and rent revenue.

Expenses result from using up or consuming assets or using of services in the process of generating
revenues. Examples of expenses include wages expense, rent expense, utilities expense, supplies
expense, and miscellaneous expense. Statement of financial performance accounts are temporary
accounts or nominal accounts since they are closed to a summary accounts i.e income summary at the
end of accounting period.

2.3 Chart of Accounts

A group of account for a business entity is called ledger. A list of accounts in the ledger is called chart
of accounts. It is listing of the account and account number being used by a given business. Accounts
are usually arranged in the ledger in the financial statements order. The accounts are normally listed in
the order in which they appear in the financial statements. The statement of financial position accounts
are listed first, in the order of assets, liabilities, and owner’s equity. The statement of financial
performance accounts are then listed in the order of revenues and expenses. Example, chart of account
for Mesfin Company is given below.

Statement of Financial Position Accounts Statement of Financial Performance Accounts

1. Assets 4. Revenue
11 Cash 41 Fees Earned
12 Accounts Receivable 5. Expenses
14 Supplies 51 Wages Expense
15 Prepaid Insurance 52 Rent Expense
17 Land 54 Utilities Expense
18 Office Equipment 55 Supplies Expense
2. Liabilities 59 Miscellaneous Expense
21 Accounts Payable
23 Unearned Rent
3. Owner’s Equity
31 Mesfin, Capital
32 Mesfin, Drawing

A chart of accounts should meet the needs of a company’s managers and other users of its financial
statements. The accounts within the chart of accounts are numbered for use as references. A flexible
numbering system is normally used, so that new accounts can be added without affecting other
account numbers.

Note: Designing of chart of account differs from company to other company. It depends on the type
of the business, size or on the nature of operation. In the chart of account for Mesfin garage
each account number has two digits.

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First digit indicates the major classification of the ledger in which the asset account is located.
Example; the account number one indicates assets i.e. the major division. Second digit indicates the
location the account within its class (within major division).

Note: numbering of the accounts in the ledger is used to facilitate record keeping process, to meet
information needs of management and users of financial statements, to identify the accounts in the
business document. The new account can be inserted whenever necessary without affecting the other
account number.

2.4 Rules of Debit and Credit

Debit is the left side of an account while Credit is the right side of an account. The amounts entered on
the left side of an account are called debits and the account is said to be debited or charged. The
amounts entered on the right side are credits and the account is said to be credited.

The sum of the increases in an account is usually equal to or greater than the sum of the decreases in
the account. Thus, the normal balance of an account is either a debit or credit depending on whether
increases in the account are recorded as debits or credits. The normal balance for an account is always
the same as the increase side of an account. Example, for assets increase side is left or Dr, for
liabilities and owner’s equity the increase side is right or Cr. The assignment of normal balance for
asset, liability and owner’s equity is based on the position of an account on the basic equation. The
normal balance for revenue, expense and withdrawal is assigned based on the effect on the owner’s
equity.

Note: Revenue increases owner’s equity and recorded in the credit side so the normal balance for
revenue is credit side. Expense and withdrawal decreases owner’s equity and recorded in the debit side
so the normal balance for expense and withdrawal is debit side.

Account type Increase Decrease Normal Balance

Asset debit credit debit
Liability credit debit credit
Capital credit debit credit
Revenue credit debit credit
Expense debit credit debit
Withdrawal debit credit debit

2.5 Analyzing and Recording Transactions in Journal

Transactions that initially recorded in accounting record called journal. Journal is also known as the
book of original entry since the journal is the accounting record in which transactions first recorded. It
is chronological order that shows the effect of each transaction in a specific account. The process of
recording the transaction in journal is called journalizing. Two types of journals:
Special journal - used to record specific types of transaction such as sales journal, cash journal
General journal - used to record all types of transaction.

Steps for recording transactions in a journal;

Step 1. The date of the transaction is entered in the Date column.
Step 2. The title of the account to be debited is recorded at the left-hand margin under the Description
column, and the amount to be debited is entered in the Debit column.
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Step 3. The title of the account to be credited is listed below and to the right of the debited account
title, and the amount to be credited is entered in the Credit column.
Step 4. A brief description may be entered below the credited account.
Step 5. The Post. Ref. (Posting Reference) column is left blank when the journal entry is initially
recorded.

Regardless of the account numbers that are affected, the sum of Dr and Cr is always the same in a
journal entry. Example, in this section we use Mesfin Company transaction. During June 2013, Mesfin
Company completed the following transactions.

June 5. Mesfin deposits birr 25,000 in bank account in the name of Mesfin Company.
June 5. Mesfin Company paid office rent for June, birr 1,700.
June 7. Purchased office equipment on account from ABC Company, birr 10,500
June 8. Purchased Tuck $18,000 paying in cash birr 10,000 and the remaining on Notes payable.
June 10. Purchased supplies birr 1,315 for cash.
June 12. Received fees of birr 3,300 from customers for services.
June 20. Paid a premium of birr 800 for a comprehensive insurance policy covering liability, theft and
fire. The policy covers the two years period.
June 22. Fees earned on account totaled, birr 1,950 for June.
June 24. Received an invoice for truck expenses, to be paid in June, birr 290.
June 29. Paid birr 490 telephone bill for the month.
June 29. Paid birr 195 for news paper and advertisement
June 30. Received birr 1,200 from customers in payment of their accounts.
June 30. Paid for its employees birr 1,900 for two weeks wage.
June 30. Paid birr 3,000 for its supplies purchased on account.
June 30. Withdrew birr 2,500 for personal use.

Journalize each transaction in to two column- step 2

General Journal Page 1
Date Description P/R Debit Credit
2013 Cash 11 25,000
June 5 Mesfin capital 31 25,000
Invested cash in Mesfin company
5 Rent expense 52 1,700
Cash 11 1,700
Paid rent for June
7 Office Equipment 18 10,500
Account payable 21 10,500
Purchased office Equipment
8 Truck 17 18,000
Cash 11 10,000
Notes payable 22 8,000
10 Supplies 14 1,315
Cash 11 1,315
12 Cash 11 3,300
Fees earned 41 3,300
20 Prepaid insurance 15 800
Cash 11 800

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 22 Account receivable 12 1,950
Fees earned 41 1,950
24 Truck expense 55 290
Account payable 21 290
29 Utility expense 54 490
Cash 11 490
29 Miscellaneous expense 19 195
Cash 11 195
30 Cash 11 1,200
Account receivable 12 1,200
30 Wage expense 51 1,900
Cash 11 1,900
30 Account payable 21 3,000
Cash 11 3,000
30 Mesfin withdrawal 32 2,500
Cash 11 2,500

Posting the accounts to the ledger (4-column account)

The process of transferring journal entries to the proper ledger account is called posting.

Account: Cash A/No.: 11

Balance
Date Item P/R Debit Credit
Debit Credit
2013
June 1 1 25,000 25,000
5 1 1,700 23,300
8 1 10,000 13,300
10 1 1,315 11,985
12 1 3,300 15,285
20 1 800 14,485
29 2 490 13,995
29 2 195 13,800
30 2 1,200 15,000
30 2 1,900 13,100
30 2 3,000 10,100
30 2 2,500 7,600

Account: Accounts Receivable A/No: 12

Credit Balance
Date Item P/R Debit
Debit Credit
2013 22 1 1,950 1,950
June
30 2 1,200 750

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 Account: Supplies A/No.: 14
Credit Balance
Date Item P/R Debit
Debit Credit
2013
June 10 1 1,315 1,315

Account: Prepaid Insurance A/No.: 15

Credit Balance
Date Item P/R Debit
Debit Credit
2013 20 1 800 800
June

Account: Office Equipment A/No.: 18

Balance
Date Item P/R Debit Credit
Debit Credit
June 7 1 10,500 10,500
2013

Account: Truck A/No.: 17

Balance
Date Item P/R Debit Credit
Debit Credit
2013 8 1 18,000 18,000
June

Account: Accounts Payable A/No.: 21

Credit Balance
Date Item P/R Debit
Debit Credit
2013 7 1 10,500 10,500
June
24 2 290 10,790
30 2 3,000 7,790

Account: Notes Payable A/No.: 22

Credit Balance
Date Item P/R Debit
Debit Credit
2013 8 1 8,000 8,000
June

Account: Mesfin capital A/No. 31

Credit Balance
Date Item P/R Debit
Debit Credit
2013 1 1 25,000 25,000
June

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Account: Mesfin Drawing A/No.: 32
Credit Balance
Date Item P/R Debit
Debit Credit
2013 30 2 2,500 2,500
June

Account: Fees Earned A/No.: 41

Credit Balance
Date Item P/R Debit
Debit Credit
2013 7 1 3,300 3,300
June
22 1 1,950 5,250

Account: Wage Expense A/No.: 51

Credit Balance
Date Item P/R Debit
Debit Credit
2013 30 2 1,900 1,900
June

Account: Rent Expense A/No.: 52

Credit Balance
Date Item P/R Debit
Debit Credit
2013 5 1 1,700 1,700
June

Account: Utility Expense A/No.: 54

Date Item Credit Balance

P/R Debit
Debit Credit
2013 29 2 490 490
June

Account: Truck Expense A/No.: 55

Credit Balance
Date Item P/R Debit
Debit Credit
2013 24 2 290 290
June

Account: Miscellaneous Expense A/No.: 55

Balance
Date Item P/R Debit Credit
Debit Credit
2013 29 2 195 195
June

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2.6 Preparing Trial Balance

Errors may occur in posting debits and credits from the journal to the ledger. One way to detect such
errors is by preparing a trial balance. Double-entry accounting requires that debits must always equal
credits. The trial balance verifies this equality. The steps in preparing a trial balance are as follows:
Step 1: List the name of the company, the title of the trial balance, and the date the trial balance is
prepared.
Step 2: List the accounts from the ledger and enter their debit or credit balance in the Debit or Credit
column of the trial balance.
Step 3: Total the Debit and Credit columns of the trial balance.
Step 4: Verify that the total of the Debit column equals the total of the Credit column

Mesfin Company
Unadjusted Trial balance
June 30, 2013
Debit Balances Credit Balances
Cash……………………………………7,600
Account receivable……………………. 750
Supplies………………………………. 1,315
Prepaid insurance………………………..800
Equipment……………………………10,500
Truck…………………………………18,000
Accounts payable…………………………………………….…..7,790
Notes payable……………………………………………….……8,000
Mesfin, capital…………………………………………………..25,000
Mesfin, drawing……………………………………………...…. 2,500
Fees earned………………………………………………………5,250
Wage expense……………………..…..1,900
Rent expense……………………..……1,700
Utility expense………………………..…490
Truck expense……………………..….…290
Miscellaneous expense………………….195
Total 46,040 46,040

Note: the sum total of Dr and Cr should be equal unless we have error. The trial balance does not
provide complete proof of the accuracy of the ledger. It indicates only that the debits and the
credits are equal. This proof is of value, however, because errors often affect the equality of
debits and credits.

The Usefulness and Limitation of Trial Balance

Even though the trial balance helps to check the equality between Debit and Credit sides, it has the
following limitations:
1. Failure to record or to post the transaction
2. Recording the same wrong amount for both Dr and Cr parts of transaction
3. Recording the same transaction more than ones
4. Posting a part of transaction as a debit and credit but to the wrong amount

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Trial balance errors there are three types of errors that cause a trial balance to be unequal:
A. Trial balance preparation errors – errors will occur in journalizing and posting transactions.
 One of the columns of trial balance was incorrectly added or computed
 The balance was incorrectly recorded on trial balance when we post the end balance of an
account from ledger to trial balance we may record incorrectly.
 A debit balance was recorded on the trial balance as credits or vice versa or balance was
omitted

B. Errors determining the account balances or account balance errors

 A balance was incorrectly computed- when we compute the end balance of each account we
may add or subtract incorrectly.
 A balance was posted in the wrong balance column

C, Errors in recording transaction in the ledger or posting errors

 Wrong amount posted to an account
 Debit posted as credits or vice versa
 Debit or credit posting omitted

Errors can be detected

 By audit procedures (reviewing source document, posting journal)
 By chance
 By looking trial balance- observing the sum total of Debit and Credit

The two most common types of errors:

Transposition errors - reversing the digits in a number or incorrect rearrangement of digits or when
the order of the digit is changed.
Example: Correct Wrong
$690 $960
$26 $62
$452 $425

Slide error - incorrect placement of decimal point or the number is moved one space or more to the
right or left or moving the entire number either to the right or left.
Example, Correct Wrong
$845.00 $84.50
$525.00 $52.50
$442.00 $4420.00

2.7 The Adjusting Process

Adjusting entries are required at the end of accounting period to bring the accounts up to date to assure
the matching of the revenue and expense. All adjustments are internal transactions (they are not
transactions with outsiders). All adjustments do not affect cash. All adjusting entries affect at least one
statement of financial performance account and one statement of financial position account.

Four items that require adjustment:

1. Deferred expenses are adjustments for goods or services collected or paid for in advance of
benefits given or received. They are also items that have been initially recorded as assets but are
10
expected to become expenses over time or through the normal operation of the business. Example:
supplies and prepaid insurance

2. Deferred revenue or unearned revenue- are items that have been initially recorded as an liabilities
but are expected to become revenues over time or through the normal operation of the business.
Example: unearned rent, fees received from students by college or cash collected from customers in
advance before providing services.

3. Accrued expenses or accrued liabilities- are expenses that have been incurred but not recorded or
paid in the accounts. Example: accrued wage expenses that have been incurred but not recorded or
paid. Accrued interest on note payable.

4. Accrued revenue or accrued assets – revenues that have been earned but not recorded or collected
in the accounts. Example fees for services rendered to customers.

Fixed assets- physical resource owned and used by a business and have long life. They are a type of
long term deferred expenses. However, because of their nature and long life they are presented
separately from other deferred expenses such as supplies and prepaid insurance. As time passes fixed
assets lose their ability to provide useful service. This decrease in usefulness is depreciation. All fixed
assets except land lose their usefulness. The process of allocating the cost of fixed assets to expense
over their estimated life is depreciation expense. The contra-account for fixed asset is Accumulated
depreciation. Example contra-account for Equipment- accumulated depreciation of Equipment,
Building- accumulated depreciation of Building.

Summary of basic adjustment and the effect of omitting adjustment on the F/S.
Type of adjustment; adjusting entry, effect of omitting adjusting entry on B/S and I/S
1, Deferred expense Dr Expense; expenses understated & NI over stated
Cr asset; assets overstated & owner’s equity over stated
2, Deferred revenue Dr Liabilities; liability overstated & owner’s equity understated
Cr revenue; NI understated & revenue understated
3, Accrued expenses Dr expense, expense under stated and NI over stated
Cr liability; liability understated and OE overstated
4, Accrued revenue Dr asset; asset understated & OE understated
Cr revenue; revenue &net income understated
5, Fixed assets Dr expense; Expense under stated & NI over stated
Cr contra-account; asset & OE over stated

2.8 Preparing Worksheet and Financial Statements

The work sheet is the working paper that accountants use to summarize adjusting entries and the
balances for preparation of financial statements. Enable accountants for collecting and summarizing
data that they need for preparing various analysis and reports. It doesn’t consider as part of the formal
accounting records. Useful device for understanding the flow of the accounting data from unadjusted
trial balance to the financial statements.

Adjustments in preparation of final accounts and preparation of the work sheet for financial
statements
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Mesfin Company prepared the following trial balance at May31, 2014 and the end of fiscal year or
accounting year.

Mesfin Company
Unadjusted Trial Balance
May 31, 2014
Cash………………………………………… 7,500
Accounts receivable………………………...16,500
Prepaid insurance…………………………….2,600
Supplies……………………………………...1,950
Land………………………………………..60,000
Building…………………………………...100,500
Accumulated depreciation of Building………………………..…81,700
Equipment…………………………….…….72,400
Accumulated depreciation of Equipment……………………….. 63,800
Accounts payable…………………………………..……………...6,100
Unearned rent………………………………..…………………….1,500
Mesfin, Capital………………………………………………..….60,700
Mesfin, Drawing……………………………..4,000
Fees revenue………………………………………………….....161,200
Salaries and wage expense…………………..60,200
Advertising expense……………………..…..19,000
Utility expense…………………………….…18,200
Repair expense…………………………….….8,100
Miscellaneous expense…………………….….4,050
Total 375,000 375000
The data needed to determine yearend adjustments are as follows:
a. fees revenue occurred at May 31 is birr 3,500
b. Insurance expired during the year is birr 1,000
c. supplies on hand at may 31 are birr 450
d. depreciation of Building for the year is birr 1,620
e. depreciation of Equipment for the year is birr 3,160
f. accrued salaries and wages at may 31 are birr 1,700
g. unearned rent at may 31 is birr 1,000

Instruction
1. Enter the trial balance at a 10 column work sheet and complete the work sheet
2. Prepare the financial Statements

Journalize adjusting entries

Account Receivable……..….3,500
Fees Revenue…………………………….……3,500
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 Insurance Expense………… 1,000
Prepaid Insurance……………………....…….1,000
Supplies Expense………..….1,500
Supplies……………………………..……….1,500
Depreciation expense……….1,620
Acc. Dep. of Building…………………….....1,620
Depreciation expense………..3,160
Acc. Dep. of Equipment…………………….3,160
Salaries and wage expense….1,700
Salaries and Wage Payable………………….1,700
Unearned Rent …………………..500
Rent Revenue……………………………………500

Mesfin Company
Work Sheet
For the year ended may 31, 2014
Un adjusted Adjusted Trial Stat. of Financial Stat. of Financial
Adjustments
Account Title trial balance balance Performance Position
Dr Cr Dr Cr Dr Cr Dr Cr Dr Cr
Cash 7500 7500 7500
Account receivable 16500 a
3500 20000 20000
Prepaid insurance 2600 b
1000 1600 1600
Supplies 1950 c
1500 450 450
Land 60000 60000 60000
Building 100500 100500 100500
Acc. dep. Building 81700 d
1620 83320 83320
Equipment 72400 72400 72400
Acc. dep E. 63800 e
3160 66960 66960
Account payable 6100 6100 6100
Unearned rent 1500 g
500 1000 1000
Mesfin, capital 60700 60700 60700
Mesfin, drawing 4000 4000 4000
Fees revenue 161200 a
3500 165200 165200
g
500
Salaries expense 60200 f
1700 61900 61900
Advertising expense 19000 19000 19000
Utility expense 18200 18200 18200
Miscellaneous expe 4050 4050 4050
Insurance expense b
1000 1000 1000
supplies expense c
1500 1500 1500
Depreciation ex.B. d
1620 1620 1620
Depreciation ex.E. e
3160 3160 3160
Salaries payable f
1700 1700 1700
12980 12980 385220 385220 118530 165200 266450 219780
Net Income 46670 46670
12980 12980 385220 385220 165200 165200 266450 266450

2.9 Preparations of Financial Statements from Work sheet

Mesfin Company
Statement of Financial Performance
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 For the year ended may 31, 2014
Fees revenue…………………………………………………………...…165,200
Salaries and wage expense……………………………..61,900
Utility expense…………………………………………18,200
Advertising expense……………………………………19,000
Prepaid expense…………………………………………8,100
Insurance expense…………………………………….…1,000
Supplies expense………………………………………...1,500
Depreciation expense of building……………………….1,620
Depreciation expense of equipment…….…………….…3,160
Miscellaneous expense…………………………………..4,050
Total expense……………………………………………………………..11,8530
Net income………………………………………………………………….6,670
Mesfin Company
Statement of Owner’s Equity
For the year ended may 31, 2014
Beginning capital…………………………………………………………60,700
Add: Net income………………………………………46,670
Less: Withdrawal…………………………………..….(4,000)
Increase in owner’s equity ……………………………………………….42,670
Ending capital ………………………………………………………….103,370

Mesfin Company
Statement of Financial Position
May 31, 2014
Current Assets
Cash …………………………………………………. ... 7,500
Account receivable……………………………………..20,000
Prepaid insurance………………………………………...1,600
Supplies…………………………………………………....450
Total current assets……………………………………..29,550
Plant Assets
Land ……………………………………………………60,000
Building……………………………100,500
Less accumulated dep .B……………83,320…………...17,180
Equipment …………………………..72,400
Less accumulated dep .E…………….66,960…………….5,440
Total plant assets……………………………………..….82,620
Total Assets……………………………………………112,170
Liability
Account payable…………………………………………..6,100
Unearned rent……………………………………………..1,000
Salaries and wage payable………………………………...1,700
Total liability………………………………………………8,800
Mesfin Garage capital…………………………………..103,370
Total Liabilities and Capital……………………….....112,170

Posting of Adjusting Entries

Account: Accounts Receivable A/No.: 12
14
 Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 1 16,500
May 3,500 20,000

Account: Supplies A/No.: 14

Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 1 1,950
May 1,500 450

Account: Prepaid Insurance A/No. 15

Credit Balance
Date Item P/R Debit
Debit Credit
2014 31 1 2,600
May 1,000 1,600

Account: Acc. Dep. of Building A/No.:

Credit Balance
Date Item P/R Debit
Debit Credit
2014 31 1 81,700
May 1,620 83,320

2.10 Closing Entries and Post-Closing Trial Balance

Revenue, expense and drawing are temporary accounts. While all assets, liabilities and capitals are
permanent accounts. Closing has four parts i.e revenue, expense, drawing and income summary.
 To close Revenues
May 31 Fees Revenue………………165,200
Income Summary………………………..165,200
 To close expenses
May 31 Income Summary……………..118,530
Salaries and wage expense……………….61,900
Utility expense………………..…….…….18,200
Advertising expense……………….……...19,000
Prepaid expense…………….……..……….8,100
Insurance expense………….………………1,000
Supplies expense…………………………...1,500
Depreciation expense of building………….1,620
Depreciation expense of equipment…….….3,160
Miscellaneous expense……………………..4,050

 To close Income Summary or NI the account is credited for the amount of net income
Income Summary…………………46,670
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 Mesfin Capital……………………….46,670

 Drawing is credited for the amount of its balance; the capital account is debited for the
same amount. To close drawing
Mesfin Capital……………………..4,000
Mesfin Drawing…………………..…..4,000

Note: income summary is used only at the end of the period because it has the effect of clearing the
expense and revenue accounts of their balance.

Posting closing entries

Account: Mesfin Capital A/No.: 31

Balance
Date Item P/R Debit Credit
Debit Credit
2014 60,700 60,700
May 31 Closing 46,670 107,370
Closing 4,000 103,370

Account: Mesfin Drawing A/No.: 32

Balance
Date Item P/R Debit Credit
Debit Credit
2014 4000 4000
May 31 Closing 4000 =

Account: Income Summary A/No.: 33

Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 Closing 165,200 165,200
May 31 Closing 118,530 46,670
31 Closing 46,670 =

Account: Fees Revenue A/No.: 41

Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 161,200 161,200
May 31 Adjustment 3,500 164,700
31 Adjustment 500 165,200
31 Closing 165,200 =

Account: Salaries and Wage Expense A/No.: 51

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 Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 60,200 60,200
May 31 Adjustment 1,700 61,900
31 Closing 61,900 =

Account: Advertising Expense A/No.: 53

Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 19,000 19,000
May 31 Closing 19,000 =

Account: Utility Expense A/No.: 54

Balance
Date Item P/R Debit Credit
Debit Credit
2014 31 18,200 18,200
May 31 Closing 18,200 =

After closing entries have been journalized and posted to the ledger they will have zero balances.

Post-Closing Trial Balance

It is the last accounting procedure in the accounting cycle. A post-closing trial balance is prepared
after the closing entries have been posted. The purpose of the post-closing (after closing) trial balance
is to verify that the ledger is in balance at the beginning of the next period. The accounts and amounts
should agree exactly with the accounts and amounts listed on the statement of financial position at the
end of the period.

Mesfin Company
Post closing trial balance
May 31, 2000
Cash ………………………………………. .... 7,500
Account Receivable……………………………20,000
Prepaid Insurance……………………………….1,600
Supplies………………………………………….. 450
Land …………………………………………..60,000
Building……………………………………...100,500
Accumulated Depreciation of Building………………………….83,320
Equipment …………………………………….72,400
Accumulated Depreciation of Equipment………..…………..….66,960
Account Payable………………………………..……………….. 6,100
Unearned Rent……………………………………………………1,000
Salaries and Wage Payable……………………………………… 1,700
Mesfin Capital…………….……………………………………103,370
Total 262,450 262,450

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