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Accounting Cycle:
Definition and
Process

This is a helpful guide on the basics of

the accounting cycle and how it works.
You can also look into automating
some of these processes. Learn more
with our eBook: Future Office of
Finance

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Cycle

What is the
Accounting Cycle?
The accounting cycle is a standard, 8-
step process that tracks, records, and
analyzes all financial activity and
transactions within a business. It starts
when a transaction is made and ends
when a financial statement is issued
and the books are closed.

How Does the

Accounting Cycle
Work?
An accounts receivable or accounts
payable team member, full-cycle
bookkeeper, or accountant records
financial transactions, closes the books
for the accounting period, and prepares
financial statements, keeping rules of
internal control and roles in mind to
achieve separation of duties. 

Accounting Cycle
Steps 

8 accounting cycle steps include:

1. Identifying and recording 

transactions
2. Preparing journal entries
3. Posting to the general ledger 
4. Generating unadjusted trial balance
report
5. Preparing worksheets
6. Preparing adjusting entries
7. Generating financial statements
8. Closing the books

We examine the accounting cycle steps

in more detail. 

1. Identifying and
recording
transactions.
The first step in the accounting
cycle is to identify and record
transactions through subsidiary
ledgers (journals). When financial
activities or business events
occur, transactions are recorded
in the books and included in the
financial statements. Types of
accounting periods for recording
transactions include monthly
and annually. 

When accounting issues

customer invoices, these
invoices are issued in numerical
sequences for internal control. If
a company still issues paper
checks, they’re controlled and
recorded in sequential numerical
series. Any erroneous checks
are voided and retained to
control the numerical sequence. 

As an accounting period
example, businesses use a
calendar year with an accounting
period start date of January 1
and an accounting period end of
December 31. Or they may elect
with the IRS to use a different
month end as a fiscal year for the
end of the annual accounting
period, also known as the fiscal
accounting period.  Financial
statements may present
summarized quarterly and year-
to-date information.  

Record accounting transactions

in the accounting system using
double-entry bookkeeping with
balancing debits and credits.
 Generate subsidiary journals
and a general journal. Types of
subsidiary journals include aged
accounts receivable, aged
accounts payable, cash
disbursements, and fixed assets
& accumulated depreciation. 

2. Preparing journal
entries
To record non-routine
accounting transactions,
prepare journal entries for a
required transaction not
recorded through a subsidiary
ledger like accounts receivable.
You can also use journal entries
to make corrections. Use
automatic journal entries when
possible. 

Businesses use accrual

accounting rather than cash
accounting to follow generally
accepted accounting principles
(GAAP). The matching principle
matches revenue with related
expenses by recognizing and
assigning them to the proper
accounting period in GAAP
accounting.  Journal entries
record accruals and reverse
them in the next accounting
period when that month’s
accruals are determined. 

Your accounting system will let

you set up automatic recurring
transactions for subscription
billing like SaaS software. You’ll
be able to automatically set up a
journal entry for a monthly
transaction like prepaid
insurance expense that needs to
be recognized as insurance
expense instead of a prepaid
asset as time elapses.
 
Depreciation should
automatically be generated as a
journal entry when you correctly
set up the fixed asset in the
accounting software or ERP
system. 

For non-routine transactions like

M&A transactions, you’ll need to
analyze the transaction using
worksheets and prepare and
record journal entries for the
deal.  

3. Posting to the general

ledger 
Your accounting system will let
you post subsidiary journals and
journal entries to the general
ledger. 

4. Generating
unadjusted trial
balance report
When you generate an
unadjusted trial balance report
from the financial records, you’re
checking for errors to ensure
that all transactions are recorded
in the general ledger. The trial
balance format is that every
general ledger account balance
or total is listed without the
details. With a double-entry
bookkeeping system, total
debits should equal total credits. 

The unadjusted trial balance

report is created by your
accounting software. Use the
report to make sure that total
debits and total credit balance
and analyze it for later making
adjusting entries as corrections. 

5. Preparing
worksheets 
Use worksheets to analyze,
reconcile, and identify adjusting
entries and consolidation
entries. When possible, use the
capabilities provided by your
accounting system. 

Each balance sheet account

should be reconciled at least
monthly to find and correct
errors with adjusting journal
entries. Compare each of the
bank accounting statements to
its general ledger cash account.
A list of cash reconciling items
will include outstanding
payments and outstanding
deposits that haven’t yet cleared
the bank and bank service fees. 

For other balance sheet items,

reconcile the accounts
receivable and accounts payable
aging journals to the general
ledger. Reconcile more assets
and liabilities, including
inventory, fixed assets, prepaid
assets, accrued liabilities,
retained earnings, and owner’s
equity to the general ledger. 

To reconcile inventory balances,

businesses take cycle counts,
which are sample inventory
counts during the year.
Companies take a
comprehensive physical
inventory to compare count
quantities with perpetual
inventory balances in a month
with lower business activity. In
the physical inventory
reconciliation process, cost
accounting makes necessary
and approved adjustments to the
detailed financial records and
journal entries.

Note that companies can

perform some accounting
process reconciliations like
payments reconciliation
automatically with AP
automation software. 

In the consolidation process for

multi-entity companies, income
statements and balance sheets
need to be combined. But
intercompany profit needs to be
eliminated as a worksheet
adjustment because these
transactions are not third-party
transactions with outsiders.
Otherwise, the profit would be
too high. 

6. Preparing adjusting
entries
Make adjusting journal entries to
correct errors and reflect any
differences noted in reconciling
balance sheet accounts. Journal
entries require review and
approval. 

After entering adjusting entries

and posting them to the general
ledger, total debit balances
should equal total credit
balances as an accounting
control process. You can check
by running and reviewing an
adjusted trial balance report. 

7. Generating "nancial
statements
Choose your customized
financial reports to generate
financial statements for the
accounting period, whether
monthly or year-end. Your
financial statements can be set
up to show quarterly totals in
many accounting systems. The
SEC requires quarterly financial
reporting for public companies.
Financial statements have a
management review and
approval process before they are
issued. 

Types of financial statements of

a company include:

• Balance sheet
• Statement of owner’s equity
• Income statement
• Statement of cash flows

The accounting equation for the

balance sheet is assets minus
liabilities equals owner’s equity.  

8. Closing the books 

Perform step 8 only at fiscal or
calendar year-end, but not for a
normal month-end close. 

Close income statement

temporary accounts into a
permanent account. Temporary
accounts include the revenue
and expense accounts. At year-
end, net income or loss is closed
into the permanent account,
retained earnings. Revenue and
expense ledger account
balances are reduced to zero
through a closing entry in the
system. 

Prepare a post-closing trial

balance report at the end of the
accounting period for the year.
Again, ensure that total debits
equal total credits. The
temporary ledger accounts
should be zeroed out if you’ve
completed the year-end
accounting close process
correctly. Verify the beginning
balance of retained earnings that
will be used starting with the
next monthly accounting period
close in the following business
year. 

When the post-closing trial

balance is good, you’ve reached
the completion of the
accounting cycle at year-end.

Although you’ve technically

reached the last step of the
accounting cycle for year-end
you may still need to enter
adjusting entries from the CPA
firm’s financial audit into the
accounting system for the year.
You can open a new accounting
period to begin recording
transactions for the accounting
cycle of the next month and year.

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Accounting Cycle
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Accounting Cycle vs
Operating Cycle 
The accounting cycle vs operating
cycle are entirely different financial
terms. The accounting cycle consists of
the steps from recording business
transactions to generating financial
statements for an accounting period.
The operating cycle is a measure of
time between purchasing inventory,
selling the inventory as a product, and
collecting cash from the sales
transaction. 

The operating cycle can be expressed

in a formula as the sum of the financial
analysis ratios for days’ sales
outstanding and the average collection
period. Understanding the operating
cycle in your business is essential for
cash flow management. 

Why is the
Accounting Cycle
Important?
The accounting cycle is used by
businesses and organizations to record
transactions and prepare financial
statements. The standardized
accounting cycle process (supported
by accounting systems) is important
because it helps business owners,
small businesses, and established
companies close their books for the
accounting period. It also helps to
generate financial information to
perform financial statement analysis
and manage the business. 

The accounting department uses a

customized and detailed accounting
close checklist that reflects items to be
completed during each accounting
cycle; with responsibilities and
deadlines assigned, and
documentation of completion times
and approvals for each task. Use of a
checklist with deadlines in the
accounting cycle improves
accountability and process
management. 

CPA firms can review or audit the

financial statements and drill down to
the underlying financial transactions
and accounting records to test account
balances.

Stakeholders, including management,

the Board of Directors, lenders,
shareholders, and creditors, can
analyze the financial statement results
for the accounting cycle period. 

Optimizing the
Accounting Cycle
One way in which companies are
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