As a business owner, you must understand that record-keeping of revenues, expenditures, and net profits is crucial for your company’s optimal financial health. In other words, maintaining the books is an important responsibility of an accountant or a business owner.
You must close the books periodically, which in simpler terms refers to balancing the income and expenses accounts and adding the profits into the balance sheet! One can carry out this task manually or with the help of accounting software.
Let us find out how to close the books for a business, assess its financial health and keep track of a company’s credits and debits!
An accountant is usually responsible for the process of book closing. However, if your business is not on a large scale, and you have not hired an accountant to do so, you can carry out the process as effectively.
By following several steps to close the books, you can move on to conduct business for the next year, with a clear financial picture of your business. This can help you make well-informed decisions that will suit your business and help enhance profitability.
- Transferring all your entries from the Journal to the Ledger
- Find out the sum of all Ledger accounts
- Come up with a preliminary trial balance
- Add adjusting entries to the Journal
- Account for the adjusting entries in a new trial balance
- Generation of Financial statements
- Account for the closing entries
- Generating the final trial balance
1. Transferring all your entries from the Journal to the Ledger
As soon as a transaction is made, it is recorded in the Journal, which is transferred to General Ledger when they are assigned to an existing account, such as accounts payable or receivable.
To close the books, you must post the total from every account to their relevant accounts in the general Ledger. You can choose to close the books yearly or monthly, based on your convenience.
2. Find out the sum of all Ledger accounts
Once all the entries are transferred to General Ledger, one should sum up different accounts to record the ending balance in every account. This paints a brief picture of the financial health of an account.
ProfitBooks can help in this regard. Various industry leaders hold this accounting software on a high pedestal for its simple UI and the variety of services.
3. Come up with a preliminary trial balance
This step involves the summation of the ending balance of different accounts, which would leave us with the trial balance. The trial balance showcases the total credits and debits your business has acquired.
The total credits and debits must be balanced. If they do not equate to each other, you would have to recalculate the debits and credits to ensure that they are balanced to close the books.
4. Add adjusting entries to the Journal
Once the debits and credits are balanced, it is time for you to add adjusting entries that are not included in daily transactions. These adjusting entries consist of an accrued value of depreciation and real estate taxes, which are to be accounted for in the general journey.
5. Account for the adjusting entries in a new trial balance
The adjusting entries are added to the previously recorded trial balance, which gives us a new trial balance. It is very crucial that the debits and credits are balanced in this trial balance as well. Thus, the presence of an imbalance calls for recalculation of all the ledger accounts.
6. Generation of Financial statements
Once the balance between credits and debits is achieved, it is time for you to generate financial statements in the likes of balance sheets, as well as an income statement, to close the books. This task sounds hectic, but it does not have to be like that. Instead of generating these statements manually, you can use accounting software.
ProfitBooks can help you complete this step, which allows you to focus on tasks that are actively responsible for the growth of your company. These statements allow the accountants and other parties to get an insight into the financial health, which can help investors make better decisions.
7. Account for the closing entries
This step involves the transferring of transactions from temporary accounts into closing entries. The balance of these temporary accounts that are associated with a certain timeline is transferred into permanent accounts. This concludes the majority of the process that needs to be followed to close the books.
Additionally, one needs to ensure that all the entries are accounted for in order to ensure that no imbalances appear in the books, as it may raise ambiguity in the minds of investors or other parties assessing the financial health of a small business.
8. Generating the final trial balance
The final trial balance is generated once the closing entries are accounted for. This step should be carried out once the revenues account and the expense account are zeroed out.
Credits and Debits must balance each other out in the final trial balance. Once the balance is achieved, it can be stated that you have successfully followed all the steps precisely to close the books.
Once a business owner has carried out all these steps, they can move on to the next financial period. Balancing the credit and debit multiple times ensures that no transactions go unaccounted.
With a clear insight into the books of a company, a business owner will be able to make decisions that can set up a company for growth.
The financial statements that are generated during the closing books provide in-depth details about the financial health of the company. This information can prove useful for the business owner, as they will be able to make better business decisions for the company.
Accurate reporting of all the credits and debits also helps business owners to file their taxes accurately. Thus, accurate bookkeeping ensures that all your numbers are reported correctly, which can be included in tax returns, thus saving you considerable tax money.
Instead of taking a yearly approach to close the books, you can choose to do so on a monthly basis, which would make certain tasks related to banks easier, such as reconciliation of bank statements.
Moreover, it can help the business owner send accurate sales tax reports to the state.
Accounts that face changes while closing entries
Several accounts are affected when closing entries are made to close the books. These accounts include the expenses account, the revenue account, and the dividend account. The accounts that have been mentioned above are referred to as “nominal” or temporary accounts. These accounts are reset once the closing entries are made.
This is done so that these accounts do not affect the upcoming accounting periods. The balance from these accounts is covered to a permanent account, which is referred to as the “retained earnings” account.
Small business owners should therefore close the books precisely, as faulty bookkeeping can lead to incorrect tax filing, which can pose problems in the future.
Therefore, it can be stated that a small business owner should aim to close the books accurately, as it can help file taxes accurately as well, thus allowing small business owners to save more money.
If the steps mentioned above are followed by small business owners to close the books include the transfer of balance from the Journal to General Ledger. This is followed by the summing up of all the ledger accounts and the derivation of a preliminary trial balance. Once the adjusting entries are made to the preliminary trial balance, financial statements are generated, and other steps that have been mentioned are followed.
This is where ProfitBooks come into the picture, as it helps keep a record of every expense or income related to your business. Thus, using ProfitBooks to close the books would ensure faster and more accurate results. Find out how you can utilize ProfitBooks to automate your accounting processes, which will allow you to focus on other aspects as a small business owner.
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