4 Completing the

Accounting Cycle
Learning Objectives

1 Temporary and permanent accounts.

2 Prepare closing entries and a post-closing trial balance.

Explain the steps in the accounting cycle and how to

3 prepare correcting entries.

4 Identify the sections of a classified balance sheet.

4-1

LEARNING Prepare closing entries and a post-

2
OBJECTIVE closing trial balance.

At the end of the accounting period, the company makes

the accounts ready for the next period.

Illustration 4-8
Temporary versus permanent accounts
4-2 LO 2
 Preparing Closing Entries

Closing entries formally recognize in the ledger the transfer of

 net income (or net loss) and
 owner’s drawings

to owner’s capital.

Companies generally journalize and post closing entries only at

the end of the annual accounting period.
Closing entries produce a zero balance in each temporary
account.

4-3 LO 2

Preparing Closing Entries

Illustration 4-9
Diagram of closing
process—proprietorship

Owner’s Capital is a
permanent account.
All other accounts are
temporary accounts.

4-4 LO 2
 Preparing Closing Entries

CLOSING
ENTRIES
ILLUSTRATED

Illustration 4-10
Closing entries
4-5 journalized

Posting
Closing
Entries

Illustration 4-11

4-6 LO 2
 Preparing a Post-Closing Trial Balance
Purpose is to prove the equality of the permanent account balances
carried forward into the next accounting period. Illustration 4-12
Post-closing trial balance

4-7 LO 2

LEARNING Explain the steps in the accounting cycle

3
OBJECTIVE and how to prepare correcting entries.

Illustration 4-15
1. Analyze business transactions

9. Prepare a post-closing 2. Journalize the

trial balance transactions

8. Journalize and post

3. Post to ledger accounts
closing entries

7. Prepare financial
4. Prepare a trial balance
statements

6. Prepare an adjusted trial 5. Journalize and post

balance adjusting entries

4-8
LO 3
 Correcting Entries—An Avoidable Step

 Unnecessary if accounting records are free of errors.

 Made whenever an error is discovered.

 Must be posted before closing entries.

Instead of preparing a correcting entry, it is possible to

reverse the incorrect entry and then prepare the correct
entry.

4-9 LO 3

Correcting Entries—An Avoidable Step

CASE 1: On May 10, Mercato Co. journalized and posted a $50 cash
collection on account from a customer as a debit to Cash $50 and a
credit to Service Revenue $50. The company discovered the error on
May 20, when the customer paid the remaining balance in full.

Incorrect Cash 50
entry
Service Revenue 50
Correct Cash 50
entry
Accounts Receivable 50

Correcting Service Revenue 50

entry Accounts Receivable 50

4-10 LO 3
 Correcting Entries—An Avoidable Step

CASE 2: On May 18, Mercato purchased on account equipment

costing $450. The transaction was journalized and posted as a debit to
Equipment $45 and a credit to Accounts Payable $45. The error was
discovered on June 3.

Incorrect Equipment 45
entry
Accounts Payable 45
Correct Equipment 450
entry
Accounts Payable 450

Correcting Equipment 405

entry Accounts Payable 405

4-11 LO 3

4-12 LO 3
 DO IT! 3 Correcting Entries

Sanchez Company discovered the following errors made in

January 2017 .

1. A payment of Salaries and Wages Expense of $600 was

debited to Supplies and credited to Cash, both for $600.

2. A collection of $3,000 from a client on account was debited

to Cash $200 and credited to Service Revenue $200.

3. The purchase of supplies on account for $860 was debited

to Supplies $680 and credited to Accounts Payable $680.

Correct the errors without reversing the incorrect entry.

4-13 LO 3

DO IT! 3 Correcting Entries

Sanchez Company discovered the following errors made in

January 2017 .

1. A payment of Salaries and Wages Expense of $600 was

debited to Supplies and credited to Cash, both for $600.

Correct the error without reversing the incorrect entry.

Salaries and Wages Expense 600

Supplies 600

4-14 LO 3
 DO IT! 3 Correcting Entries

Sanchez Company discovered the following errors made in

January 2017 .

2. A collection of $3,000 from a client on account was debited

to Cash $200 and credited to Service Revenue $200.

Correct the error without reversing the incorrect entry.

Service Revenue 200

Cash 2,800
Accounts Receivable 3,000

4-15 LO 3

DO IT! 3 Correcting Entries

Sanchez Company discovered the following errors made in

January 2017 .

3. The purchase of supplies on account for $860 was debited

to Supplies $680 and credited to Accounts Payable $680.

Correct the error without reversing the incorrect entry.

Supplies ($860 - $680) 180

Accounts Payable 180

4-16 LO 3
 LEARNING Identify the sections of a classified
4
OBJECTIVE balance sheet.

 Presents a snapshot at a point in time.

 To improve understanding, companies group similar

assets and similar liabilities together.

Standard Classifications Illustration 4-20

Assets Liabilities and Owner’s Equity

Current assets Current liabilities
Long-term investments Long-term liabilities
Property, plant, and equipment Owner’s (Stockholders’) equity
Intangible assets

4-17 LO 4

The Classified Balance Sheet

Illustration 4-21

4-18 LO 4
 The Classified Balance Sheet
Illustration 4-21

4-19 LO 4

Current Assets

 Assets that a company expects to convert to cash or

use up within one year or the operating cycle, whichever
is longer.

 Operating cycle is the average time that it takes to

purchase inventory, sell it on account, and then collect
cash from customers.

4-20 LO 4
 Current Assets
Illustration 4-22

Usually listed in the order they expect to convert them into cash.

4-21 LO 4

Long-Term Investments

 Investments in stocks and bonds of other companies.

 Investments in long-term assets such as land or buildings
that is not currently being used in operating activities.
 Long-term notes receivable.
Illustration 4-23

4-22 LO 4
 Property, Plant, and Equipment

 Long useful lives.

 Currently used in operations.

 Depreciation - allocating the cost of assets to a number

of years.

 Accumulated depreciation - total amount of

depreciation expensed thus far in the asset’s life.

4-23 LO 4

Property, Plant, and Equipment

Illustration 4-24

4-24 LO 4
 Intangible Assets

 Long-lived assets that do not have physical substance.

Illustration 4-25

4-25 LO 4

Current Liabilities

 Obligations the company is to pay within the coming year

or its operating cycle, whichever is longer.

 Usually list notes payable first, followed by accounts

payable. Other items follow in order of magnitude.

 Common examples are accounts payable, salaries and

wages payable, notes payable, interest payable, income
taxes payable current maturities of long-term obligations.

 Liquidity - ability to pay obligations expected to be due

within the next year.

4-26 LO 4
 Current Liabilities

Illustration 4-26

4-27 LO 4

Long-Term Liabilities

 Obligations a company expects to pay after one year.

Illustration 4-27

4-28 LO 4
 Owner’s Equity

 Proprietorship - one capital account.

 Partnership - capital account for each partner.
 Corporation - Common Stock and Retained Earnings.

Illustration 4-28

4-29 LO 4

DO IT! 4 Balance Sheet Classifications

The following accounts were taken from the financial statements of Callahan
Company.

Match each of the following accounts to its proper balance sheet

classification, shown below. If the item would not appear on a balance sheet,
use “NA.”
Current assets (CA) Current liabilities (CL)
Long-term investments (LTI) Long-term liabilities (LTL)
Property, plant, and equipment (PPE) Owner’s equity (OE)
Intangible assets (IA)

4-30 LO 4