Accounting 101

Chapter 4 – Part 1
Closing the books :closing entries

Accounts in companies’ books can be devised into two groups :

I. Permanent accounts : are accounts that are transferred from one accounting period into the
next , they include : Assets , Liabilities , and Equity (with the exception of the accounts that are
temporary).
II. Temporary accounts : are accounts that must be closed at the end of each accounting period
(Based on the Revenue recognition principle , the expense recognition principle , and the
matching principle), these accounts are : Revenue Accounts , Expense Accounts , and Dividends .

• The account that we use to close the temporary accounts (transfer the amounts in the
temporary accounts into) is called the Income summary.
• The income summary has a Normal balance of Credit (it increases + by Cr , and Decreases – by
Dr)
•

We will now illustrate how temporary accounts are closed :

A. The Revenues account has a Credit normal balance (it increases by Cr , and decreases by Dr) and
so in order to close it we must decrease it by Dr it , and when we do so we Increase the Income
summary by Cr it.

Dr Revenues

Cr Income summary

B. The expense account : has a Debit normal balance (it increases by Dr , and decreases by Cr) and
so in order to close it we must decrease it by Cr it , and when we do so we Decrease the income
summary by Dr it.

Dr Income summary

Cr Expenses

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 C. The income summary :Next, we close the Income summary (transfer its amounts) to the
Retained earnings account , So we must check after closing the Revenues and Expense what the
Balance of the Income summary account:

• if Revenues were HIGHER than expense , then the Income summary would have a balance of Cr
and so we must close it by Dr it , and to do so we must increase the Retained earnings account
by Cr it.
• If Revenues were LOWER than Expenses , then the income summary would have a balance of DR
, and so we must close it by CR it , and to do so we must Decrease the Retained earnings
Account by Dr it.

❖ Note : another way of looking at this issue is : If revenues were HIGHER than expense , then the
company had a NET INCOME , and so the company would increase its Retained earnings
(because it has made a profit) ,
❖ And if Revenues were LOWER than expenses , then the company had a NET LOSS , and so the
company would Decrease its Retained earnings (Because they have lost money)

D. Dividends : Last but not least the company must also Close the Dividends Accounts , The
dividends account has a Dr Normal Balance (It increase by Dr , and Decreases by Cr) , and so to
close it we have to decrease it by Cr it , and should we do so we must Decrease the Retained
earnings account by Dr it.

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Example : Jordan Co. Had the following accounts at the end of the year 2021 :

Account name Account Amount

Retained earnings (1/1/2021) 80,000 J.D
Service revenue 100,000 J.D
Sales Revenue 50,000 J.D
Rent Expense 30,000 J.D
Salaries Expense 20,000 J.D
Supplies Expense 5,000 J.D
Dividends 15,000 J.D
Prepare the needed Closing entries:

Solution :

First we close the Revenues Accounts :

Dr Service Revenue 100,000

Dr Sales Revenue 50,000

Cr Income summary 150,000

Next we Close the Expense Account :

Dr Income summary 55,000

Cr Rent Expense 30,000

Cr Salaries Expense 20,000

Cr Supplies Expense 5,000

After doing so we should find the T-Account for the income summary :

Income summary
150,000
55,000
95,000
Note : the Company had Revenues totaling 150,000 J.D , And expense totaling 55,000 J.D , should we
prepare the Income statement then the company would have a Net Income of 95,000 J.D , which is an
Income Summary with a 95,000 Cr Balance.

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Now we close the Income summary account :

After finding the T-Account (and the balance) of the income summary , we must now close it by the
Retained earnings Account. (the Income summary here has a Cr balance , and so to close it we must Dr it
, and so we must Cr the Retained earnings accounts – by doing so we are increasing the Retained
earnings Account)

Dr Income summary 95,000

Cr Retained earnings 95,000

And finally we close the Dividends Account :

Now to close the dividends account (if it exists , if there were no dividends during the accounting period
then we don’t need to close the dividends account) , the Dividends Account has a Dr Normal balance (it
increases by Dr and decreases by Cr) and so we must close it and to do so we must Decrease it by a Cr ,
and so we must decrease the Retained earnings account (when the company hands out dividends to its
shareholders-owners , they give it from the retained earnings)

Dr Retained earnings 15,000

Cr dividends 15,000

Lastly we should always calculate the Retained earnings at the end of the accounting period
(31/12/2021 in our example)

Retained Earnings
80,000 J.D (Balance at 1/1)
95,000 J.D (from closing the Income summary)
15,000 J.D (From closing the Dividends)
160,000 J.D

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Classroom Example : Jordan Co. Had the following accounts at the end of the year 2022 :

Account name Account Amount

Retained earnings (1/1/2021) 80,000 J.D
Service revenue 100,000 J.D
Insurance Expense 25,000 J.D
Rent Expense 45,000 J.D
Salaries Expense 30,000 J.D
Supplies Expense 5,000 J.D
Dividends 15,000 J.D
Prepare the needed Closing entries , and Find the Balance of the Retained earnings at the end of the
year.

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