04 Completing The Accounting Cycle PDF

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04 Completing the Accounting Cycle
Acc Systems and Processes (Charles Sturt University)
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4. Completing the
accounting cycle

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4. Completing the accounting cycle
This topic extends your accounting knowledge in three main areas: Worksheets,
Closing entries and Balance sheet classification.
This topic can be divided into the following sections:

4.1 The accounting cycle
4.2 Closing entries
4.3 Balance sheet classification
4.4 Error correction
4.5 Digital spreadsheets
At this stage of your study your knowledge of accounting is probably fairly

fragile. The use of worksheets as explained in this topic may be of great
assistance to you in understanding how the accounting cycle works.
4.1 The accounting cycle

The accounting cycle is the process by which accountants record transactions in
each accounting period and at the end of the period prepare the financial
statements. It is called a cycle because it is repeated with each new accounting
period. As one accounting cycle finishes, the next begins.
If we assume a new business, the following summarises the accounting process:
1. Prepare a chart of accounts

2. Design source documents
3. Analyse transactions
4. Journalise transactions
5. Post transactions to the ledger accounts
6. Balance the ledger accounts
7. Take out an unadjusted trial balance
8. Begin a worksheet
9. Prepare adjusting journal entries
10. Post adjusting journal entries
11. Prepare the adjusted trial balance
12. Complete the worksheet
13. Prepare the income statement
14. Prepare the statement of owner’s equity
15. Prepare the balance sheet
Note that the worksheet is not an essential part of the accounting cycle. It is
merely an aid to the accountant. The worksheet is not part of the formal

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accounting system. However, most businesses are likely to use worksheets.

Further, the worksheet itself can be computerised using spreadsheet software.
Hopefully, use of the worksheet will help students to understand the accounting
cycle.
You should note a few important points:

a. The difference between the debit and credit column in the income
statement columns of the worksheet is the net income or loss.
b. Every amount in the adjusted trial balance columns must be transferred to

either the income statement or balance sheet columns, but not both.
c. The balancing figure in the income statement columns, which is net

income or net loss, also appears on the opposite side on in the balance
sheet columns.
d. All sets of columns must balance. If any set of columns does not balance,
this means you have made an error.
e. The account for Withdrawals or Drawings must be extended to the balance

sheet and not to the income statement.
Test your knowledge at this stage by attempting to answer the following

questions. Don’t read the answers until you have answered the questions.
To where are each of the following accounts extended? Possible answers are:
Income Statement, debit; Income Statement, credit; Balance Sheet, debit; or
Balance Sheet, credit.
1. Cash
2. Supplies
3. Supplies expense
4. Unearned revenue
5. Service revenue
6. Capital
7. Withdrawals
8. Accumulated depreciation
9. Depreciation expense
10. Salaries payable
[Answers: (1) Balance Sheet, debit; (2) Balance Sheet, debit; (3) Income
Statement, debit; (4) Balance Sheet, credit; (5) Income Statement, credit; (6)
Balance Sheet, credit; (7) Balance Sheet, debit; (8) Balance Sheet, credit; (9)
Income Statement, debit; (10) Balance Sheet, credit].

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If you can successfully complete worksheets, it is usually a simple matter to

prepare the financial statements from those worksheets. The preparation of the
financial statements is merely a matter of classification.
4.2 Closing entries

At the end of the accounting period, certain accounts must be closed off. We
said before that revenue and expense accounts are temporary subdivisions of
owner’s equity. Thus at the end of the period these temporary or nominal
accounts must be closed off to the owner’s equity account. This is done by
transferring all revenue and expense accounts to a summary account called the
Income Summary. Expense accounts are closed off by crediting the Expense
accounts and debiting the Income Summary account. Revenue accounts are
closed off by debiting all the Revenue accounts and crediting the Income
Summary account. The balance of the Income Summary account is called Net
Income or Loss, and it in turn is transferred through to the Capital account. The
Withdrawals or Drawings account is also transferred at this stage to the Capital
account by debiting the Capital account and crediting the Withdrawals account.
At the end of this process, all Revenue accounts have a zero balance, all
Expense accounts have a zero balance, the Income Summary account has a zero
balance, and the Withdrawals account has a zero balance.
The net difference of all these accounts is shown in the Capital account. Note
that the permanent or real accounts, such as assets, liabilities and capital, are not
closed off. They carry through to the next accounting period with whatever
balances they have at the end of the previous accounting period. The Income
Summary account itself is only a temporary account, used to gather together the
revenue and expense figures.
The post closing trial balance is prepared after the closing entries have taken
place. The post closing trial balance only shows assets, liabilities and owner’s
equity accounts. The post closing trial balance shows the accounts that will
appear in the balance sheet.
4.3 Balance sheet classification

Up until this stage, balance sheet classification merely consisted of putting
assets on one side of the balance sheet, and liabilities and owner’s equity on the
other side of the balance sheet. Now you need to learn that assets and liabilities
are classified in the balance sheet. Balance sheets are prepared by firms in a
number of different patterns. At this stage we wish to present two kinds of
assets and two kinds of liabilities. They are: Current Assets and Long Term
Assets (otherwise called Fixed Assets); and Current Liabilities and Long Term

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Liabilities. The difference between Current Assets and Long Term or Fixed
Assets is simply a matter of time. Current Assets are those which are expected
to be used up or turned over in the next twelve month period; Long Term Assets
are those that are expected to last longer than twelve months. Similarly, Current
Liabilities are those that are expected to be paid within one year; Long Term
Liabilities are those that are expected to have a life of longer than one year.
Note that the current portion of a Long Term Liability such as a mortgage
would be classified as a Current Liability.
Balance sheets may be presented in a report or narrative format down the page,
or they may be presented in an account format across the page. Given the size
of the paper that you are likely to be working with the easiest format for
students to use is the report format.
4.4 Error correction

In general, accountants should, wherever possible, correct errors by using
correcting journal entries. Thus, for example, if a credit is made incorrectly to
one account and this error is discovered subsequently, then the correction
should be to debit that account and to credit the correct account. In this way,
the equality of debits and credits in the accounting system is maintained. This
section also introduces new terminology. A transposition error occurs when
digits are exchanged. For example $98 is written as $89. A slide error occurs
when additional zeros are added to numbers.
4.5 Digital spreadsheets

The most popular single example of application software used by accountants is
undoubtedly spreadsheets. Under Windows, Excel, Star Office and Open
Office all share the market, with Excel and Microsoft Office being very
dominant. Fortunately for accountants and students of accounting, the
philosophy behind all of these spreadsheets is much the same - once you learn
one you can quickly adapt to another.
Worksheets are a particularly suitable application for computerised

spreadsheets. In fact another name for a spreadsheet is a worksheet. Once a
computerised spreadsheet is created, it can be used again and again, and the user
can be confident that no errors will be made by the computer.

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Self-test questions
Using the information contained in the chapter and in this study guide, attempt
the following questions.
i. Matching
You are required to match the numbered terms with the letter of the most
appropriate description.
1. ____ Spreadsheet
2. ____ Microsoft Excel
3. ____ Report Format
4. ____ Cash
5. ____ Worksheet
6. ____ Current Liabilities
7. ____ Temporary Accounts
8. ____ Slide
9. ____ Transposition
10. ____ Income Summary
A. This aid to the accountant is not part of the formal accounting system.
B. This is the most liquid of all assets.
C. This kind of error results from digits being mixed up in an accounting

entry.
D. This kind of error results from an extra zero being added to a figure in an
accounting entry.
E. This is a temporary account used to close off all revenue and expense
accounts.
F. These accounts are closed off at the end of the accounting period.
G. This is a popular spreadsheet program running under Windows.
H. This balance sheet format discloses assets, liabilities and owner’s equity,
listed down the page.
I. This kind of application software is used by accountants on desktop and

laptop computers.
J. These are financial obligations that are due to be paid within one year.

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ii. Multiple choice

For each of the following questions, identify the correct alternative.
1. Which of the following is not a temporary account?
A. Withdrawals
B. Wages expense
C. Accumulated depreciation
D. Sales revenue
E. None of the above
2. Which of the following ledger accounts will not appear on the post closing
trial balance?
A. Capital
B. Equipment
C. Supplies
D. Sales revenue
3. Which of the following ledger accounts would not be classified as a

current asset?
A. Cash
B. Accounts receivable
C. Debtors
D. Prepaid rent
4. Recording $45 as $54 in a journal entry is properly known as:
A. A transposition error
B. A slide error
C. A posting error
D. A stupid mistake

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5. A company has a net loss for the current period. This amount is entered on
the worksheet as:
A. A credit on the balance sheet column only

B. A debit on the profit and loss statement and a credit on the balance
sheet column
C. A debit on the balance sheet column only
D. A credit on the profit and loss statement column and a debit on the
balance sheet column
6. In a worksheet, which of the following accounts is not extended from the

adjusted trial balance to the balance sheet columns?
A. Drawings
B. Accounts Payable
C. Accounts Receivable
D. Office equipment
7. If the profit and loss summary account has debits of $18,000 and credits of
$25,000, this means that:
A. The company had made an error

B. A slide error has been made
C. A net profit had been made of $7,000
D. A net loss had been made of $7,000
8. In the balance sheet, unearned service revenue should be classified as:
A. Current asset
B. Current liability
C. Long-term asset
D. Long-term liability

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9. Which of the following statements is incorrect?
A. Revenue and expense accounts are temporary subdivisions of owner’s

equity
B. The accountant’s worksheet is not part of the formal accounting
system
C. In a worksheet, accumulated depreciation is extended to the credit
side of the income statement column
D. Real accounts are not closed off at the end of the accounting period
10. Which of the following is the most popular computerised spreadsheet

running under Windows?
A. Symphony
B. Quattro
C. Multiplan
D. Lotus 1-2-3
E. Excel

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iii. Completion statement

Complete each of the following statements with the most appropriate word or
words.
1. Revenue and ____________ accounts are temporary subdivisions of

owner’s equity.
2. The withdrawals or drawings account is closed to

________________________
3. The ledger accounts, which are never closed off at the end of the
accounting period, are called __________________________ accounts.
4. The ____________ format balance sheet shows assets on one side and
liabilities and owner’s equity on the other side.
5. ____________ assets are those that are expected to be converted to cash in

the next 12 months.
6. In a worksheet, expenses are transferred to the debit side of the

____________ column.
7. In a worksheet, liabilities are transferred to the ____________ side of the

balance sheet column.
8. The accounts which are closed off at the end of the accounting period are
called ____________ accounts.
9. The trial balance which shows only assets, liabilities and owner’s equity
accounts is called the ____________ trial balance.
10. Generally, assets and liabilities in a balance sheet are classified according
to ____________
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iv. Exercises
1. The following transactions were recorded with an error in the original
journal entry.
A. Purchased equipment for $700 cash. Supplies was debited for $700;
Cash was credited for $700.
B. Purchased office supplies for $1,000 on account. Office supplies was
debited for $1,000; Sales revenue was credited for $1,000.
C. Received $500 cash for services to be rendered next year. Cash was
debited for $500; Sales revenue was credited for $500.
D. Paid $2,000 for a two year fire insurance policy for office premises.
Insurance expense was debited for $2,000; Cash was credited for
$2,000.
E. The owner withdrew $1,500 cash from the business so he could pay
his personal telephone bill. Telephone expense was debited for
$1,500; Cash was credited for $1,500.
Prepare the correcting journal entry for each transaction.
2. Condensed financial statements for Ace Car Rental before adjusting entries
were made are shown below. The following items were not reflected in
the statement:
A. Wages earned by employees but not paid at year-end, $620.

B. Depreciation on vehicles not recorded, $8,000.
C. Rental revenue earned but not collected or recorded, $720.
D. The company requires the first-day rental in advance as a deposit for
making a reservation. The deposit is either deducted from the total
charges or is forfeited. During the last week of December, deposits
earned were not recorded as revenue, $480.
Required:
1. Prepare the necessary adjusting entries in general journal form.
2. Determine the effects of the adjustments on the firm’s financial

statements by completing the schedule presented below.
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3. a. Did net profit increase or decrease? By how much?

b. What was the effect of the adjusting entries on the total assets of
the firm? Total liabilities? Total owner’s equity?
(Use for part 2 of question 2.)
ACE CAR RENTAL

Financial Statements
Unadjusted Adjusted
balances Adjustments balances
Profit and loss statement $142,000 __________

Rental revenue __________ __________
Expenses:
Depreciation expense — __________ __________
Insurance expense 26,000 __________ __________
Wages expense 78,000 __________ __________
General expenses 12,000 __________ __________
Net profit $ 26,000 __________
Statement of owner’s equity

Beginning capital $ 50,000 __________ __________
Add: Net profit 26,000 __________ __________
Less: Drawings (40,000) __________ __________
Ending capital $ 36,000 __________
Balance Sheet
Cash at bank $ 26,000 __________ __________
Accounts receivable
Other receivables
— __________
__________
__________
__________
6,000
Vehicles __________ __________
68,000
Less: Accumulated depreciation __________ __________
(32,000)
__________
$ 68,000
Wages payable
Unearned rental revenue $— __________ __________
Bills payable 4,000 __________ __________
Jim Dalton, Capital 28,000 __________ __________
36,000 __________ __________
$ 68,000 __________
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Self-test solutions
i. Matching
1 I; 2 G; 3 H; 4 B; 5 A; 6 J; 7 F; 8 D; 9 C; 10 E.
ii. Multiple choice questions

1. C
2. D
3. E (all are potentially current assets)
4. A
5. D
6. E (all appear in the balance sheet columns)
7. C
8. B
9. C
10. E
iii. Completion statements

1. Expense
2. Capital
3. Real or Permanent
4. Account
5. Current
6. Income (Profit and Loss) Statement
7. Credit
8. Temporary or nominal
9. Post closing
10. Time
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iv. Exercises
1 A. Equipment 700
Supplies 700
B. Sales Revenue 1,000
Accounts Payable 1,000
C. Sales Revenue 500
Unearned Revenue 500
D. Prepaid Insurance 2,000
Insurance Expense 2,000
E. Drawings 1,500
Telephone Expense 1,500
2 A. Wages Expense 620

.
Wages Payable 620
B. Depreciation Expense - Vehicles 8,000
Accumulated Depreciation - 8,000
Vehicles
C. Accounts Receivable 720
Rental Revenue 720
D. Unearned Rental Revenue 480
Rental Revenue 480
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2.
ACE CAR RENTAL

Financial Statements
Unadjusted Adjusted
balances Adjustments balances
Profit and loss statement

Rental revenue $142,000 + 720
+ 480 $143,200
Expenses:
Depreciation expense — + 8,000 8,000
Insurance expense 26,000 26,000
Wages expense 78,000 + 620 78,620
General expenses 12,000 12,000
Net profit $ 26,000 $ 18,580
Statement of owner’s equity

Beginning capital $ 50,000 $ 50,000
Add: Net profit 26,000 18,580
Less: Drawings (40,000) (40,000)
Ending capital $ 36,000 $ 28,580
Balance Sheet
Cash at bank $ 26,000 $ 26,000
Accounts receivable — + 720 720
Other receivables 6,000 6,000
Vehicles 68,000 68,000
Less: Accumulated depreciation (32,000) + 8,000 (40,000)
$ 68,000 $ 60,720
Wages payable + 620 620
—
Unearned rental revenue 4,000 — 480
3,520
Bills payable 28,000
28,000
Jim Dalton, Capital 36,000
28,580
$ 68,000
$ 60,720
3. a. Net profit decreased by $7,420 ($26,000 - $18,580).
b. Total assets decreased by $7,280 ($68,000 - $60,720).

Total liabilities increased by $140 ($4,000 - $4,140).
Total owner’s equity decreased by $7,420 ($36,000 - $28,580).
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Problems and solutions
Selected from Accounting (First Edition)

by Horngren and Harrison
Chapter 4
Completing the Accounting Cycle
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Solutions to:
 Problem 4-1B
 Problem 4-2B
 Problem 4-5B
 Problem 4-6B
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04 Completing the Accounting Cycle

Acc Systems and Processes (Charles Sturt University)

StuDocu is not sponsored or endorsed by any college or university

Downloaded by cyics Tab (cyics1@gmail.com)

4. Completing the accounting cycle

This topic can be divided into the following sections:

At this stage of your study your knowledge of accounting is probably fairly

4.1 The accounting cycle

If we assume a new business, the following summarises the accounting process:

1. Prepare a chart of accounts

Downloaded by cyics Tab (cyics1@gmail.com)

accounting system. However, most businesses are likely to use worksheets.

You should note a few important points:

b. Every amount in the adjusted trial balance columns must be transferred to

c. The balancing figure in the income statement columns, which is net

e. The account for Withdrawals or Drawings must be extended to the balance

Test your knowledge at this stage by attempting to answer the following

Downloaded by cyics Tab (cyics1@gmail.com)

If you can successfully complete worksheets, it is usually a simple matter to

4.2 Closing entries

4.3 Balance sheet classification

Downloaded by cyics Tab (cyics1@gmail.com)

4.4 Error correction

4.5 Digital spreadsheets

Worksheets are a particularly suitable application for computerised

Downloaded by cyics Tab (cyics1@gmail.com)

B. This is the most liquid of all assets.

C. This kind of error results from digits being mixed up in an accounting

G. This is a popular spreadsheet program running under Windows.

I. This kind of application software is used by accountants on desktop and

Downloaded by cyics Tab (cyics1@gmail.com)

ii. Multiple choice

1. Which of the following is not a temporary account?

3. Which of the following ledger accounts would not be classified as a

4. Recording $45 as $54 in a journal entry is properly known as:

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A. A credit on the balance sheet column only

6. In a worksheet, which of the following accounts is not extended from the

A. The company had made an error

8. In the balance sheet, unearned service revenue should be classified as:

Downloaded by cyics Tab (cyics1@gmail.com)

9. Which of the following statements is incorrect?

A. Revenue and expense accounts are temporary subdivisions of owner’s

10. Which of the following is the most popular computerised spreadsheet

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iii. Completion statement

1. Revenue and ____________ accounts are temporary subdivisions of

2. The withdrawals or drawings account is closed to

5. ____________ assets are those that are expected to be converted to cash in

6. In a worksheet, expenses are transferred to the debit side of the

7. In a worksheet, liabilities are transferred to the ____________ side of the

Downloaded by cyics Tab (cyics1@gmail.com)

Prepare the correcting journal entry for each transaction.

A. Wages earned by employees but not paid at year-end, $620.

1. Prepare the necessary adjusting entries in general journal form.

2. Determine the effects of the adjustments on the firm’s financial

Downloaded by cyics Tab (cyics1@gmail.com)

3. a. Did net profit increase or decrease? By how much?

(Use for part 2 of question 2.)

ACE CAR RENTAL

Profit and loss statement $142,000 __________

Statement of owner’s equity