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0. 4 – Completing the Accounting Cycle. After studying this chapter, you should be able to:. Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements. Prepare financial statements from adjusted account balances.

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4 – Completing the Accounting Cycle

After studying this chapter, you should be able to:

  • Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements.
  • Prepare financial statements from adjusted account balances.
  • Prepare closing entries.
  • Describe the accounting cycle.
  • Illustrate the accounting cycle for one period.
  • Explain what is meant by the fiscal year and the natural business year.
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Objective 1 - Describe the flow of accounting information from the unadjusted trial balance into the adjusted trial balance and financial statements.

4-1

&

4-2

Objective 2 - Prepare financial statements from adjusted account balances.

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4-2

A classified balance sheet is a balance sheet that was expanded by adding subsections for current assets; property, plant, and equipment; and current liabilities.

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Cash and other assets that are expected to be converted into cash, sold or used up usually within a year or less, through the normal operations of the business are called current assets.

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4-2

  • Cash
  • Accounts Receivable
  • Notes Receivable
  • Supplies

Notes receivable are written promises by the customer to pay the amount of the note and possibly interest at an agreed rate.

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4-2

Property, plant, and equipment(also called fixed assets) include assets that depreciate over a period of time. Land is an exception as it is not subject to depreciation.

  • Equipment
  • Machinery
  • Buildings
  • Land
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Liabilities that will be due within a short time (usually one year or less) and that are to be paid out of current assets are called current liabilities.

4-2

  • Accounts payable
  • Notes payable
  • Wages payable
  • Interest payable
  • Unearned fees

Liabilities not due for a long time (usually more than one year) are long-term liabilities.

  • Notes payable
  • Mortgage payable
  • Bond payable
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Example

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4-2

The following accounts appear in the adjusted trial balance of Hindsight Consulting. Indicate whether each account would be reported in the (a) current asset; (b) property, plant, and equipment; (c) current liability, (d) long-term liability; or (e) owner’s equity section of the December 31, 2007 balance sheet of Hindsight Consulting.

  • Jason Corbin, Capital 5. Cash
  • Notes Receivable (due 6. Unearned Rent
  • in 6 months) months)
  • Notes Payable (due in 7. Accumulated Depr.—
  • 2009) Equipment
  • 4. Land 8. Accounts Payable
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Objective 3 - Prepare closing entries

4-3

Accounts that are relatively permanent from year to year are called realaccounts. Accounts that report amounts for only one period are called temporary accounts or nominal accounts.

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To report amounts for only one period, temporary accounts should have zero balances at the beginning of the period. At the end of the period the revenue and expense account balances are transferred to Income Summary.

4-3

The balance of Income Summary is then transferred to the owner’s capital account. The balance of the owner’s drawing account is also transferred to the owner’s capital account. The entries that transfer these balances are called closing entries.

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Fees Earned

Bal. 16,840

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4-3

Debit each revenue account for the amount of its balance, and credit Income Summary for the total revenue.

Step 1:

16,840

Income Summary

Step 1

16,960

Rent Revenue

Bal. 120

120

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Bal. 4,525

4,525

1,600

Bal. 1,600

Bal. 50

50

Bal. 985

985

Bal. 2,040

2,040

Insurance Expense

200

Bal. 200

Miscellaneous Expense

455

Bal. 455

4-3

Wages Expense

Income Summary

9,855

16,960

Rent Expense

Depreciation Expense

Utilities Expense

Step 2

Debit Income Summary for the total expenses and credit each expense account for its balance.

Supplies Expense

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Step 3

Debit Income Summaryfor the amount of its balance (in this case, the net income) and credit the capital account.

Chris Clark, Capital

Bal. 25,000

Chris Clark, Drawing

Bal. 4,000

4-3

Income Summary

9,855

16,960

7,105

7,105

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Step 4

Debit the capital account for the balance of the drawing account, and credit drawing for the same amount.

Chris Clark, Capital

Bal. 25,000

7,105

Chris Clark, Drawing

Bal. 4,000

4-3

4,000

4,000

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4-3

Step 1

Step 2

Step 3

Step 4

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4-3

After the closing entries are posted, all of the temporary accounts have zero balances.

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Example Exercise

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4-3

After the accounts have been adjusted at July 31, the end of the fiscal year, the following balances are taken from the ledger of Cabriolet Services Co.

Terry Lambert, Capital $615,850

Terry Lambert, Drawing 25,000

Fees Earned 380,450

Wages Expense 250,000

Rent Expense 65,000

Supplies Expense 18,250

Miscellaneous Expense 6,200

Journalize the four entries required to close the accounts.

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Example

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4-3

July 31 Fees Earned 380,450

Income Summary 380,450

31 Income Summary 339,450

Wages Expense 250,000

Rent Expense 65,000

Supplies Expense 18,250

Miscellaneous Expense 6,200

31 Income Summary 41,000

Terry Lambert, Capital 41,000

31 Terry Lambert, Capital 25,000

Terry Labert, Drawing 25,000

For Practice: PE 4-5A, PE 4-5B

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NetSolutions

Post-Closing Trial Balance

December 31, 2008

Cash 2 065 00

Accounts Receivable 2 720 00

Supplies 760 00

Prepaid Insurance 2 200 00

Land 20 000 00

Office Equipment 1 800 00

Accumulated Depreciation 50 00

Accounts Payable 900 00

Wages Payable 250 00

Unearned Rent 240 00

Chris Clark, Capital 28 105 00

29 545 00 29 545 00

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4-3

Exhibit 7 Post-Closing Trial Balance

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4-4

Objective 4

Describe the accounting cycle.

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4-4

The accounting process that begins with analyzing and journalizing transactions and ends with preparing the accounting records for the next period’s transactions is called the accounting cycle. There are ten steps in the accounting cycle.

Note – Not all steps are mandatory and in practice a few of the steps are combined

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4-4

The Accounting Cycle Steps

  • Transactions are analyzed and recorded in the journal.
  • Transactions are posted to the ledger.
  • An unadjusted trial balance is prepared.
  • Adjustment data are assembled and analyzed.
  • An optional end-of-period spreadsheet (work sheet) is prepared.

Continued

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4-4

  • Adjusting entries are journalized and posted to the ledger.
  • An adjusted trial balance is prepared.
  • Financial statements are prepared.
  • Closing entries are journalized and posted to the ledger.
  • A post-closing trial balance is prepared.
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4-5

Objective 5

Illustrate the accounting cycle for one period.

Refer to the textbook for this extended illustration.

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Objective 6 – Explain what is meant by the fiscal year and the natural business year

4-6

The annual accounting period adopted by a business is known as its fiscal year.When a business adopts a fiscal year that ends when business activities have reached the lowest point in its annual operation, such a fiscal year is also called the natural year.