Unit 9: Analyzing Business Transactions: Service Type of Business

Lesson 9.6
Accounting Cycle for Service-Type Businesses:
Closing

Introduction 1

Learning Objectives 2

Quick Look 3

Learn the Basics 4

The Closing Process 5
Preparation of a Post-Closing Trial Balance 11

Case Study 15

Keep in Mind 16

Try This 16

Practice Your Skills 17

Challenge Yourself 19

Photo Credit 22

Bibliography 22
Unit 9: Analyzing Business Transactions: Service Type of Business

Lesson 9.6

Accounting Cycle for Service-Type

Businesses: Closing

Introduction

Did you know that every business wants to have a report on how they performed during the
year? This information will be the starting point in assessing how much they achieved their
goals and objectives. A business must compute its revenues and expenses to measure its
performance. In recording the transactions, the accountant must close these accounts to
calculate its revenue and net income every accounting period.

Businesses also plan what to do to increase their revenue or cut off their expenses to
increase their net income. They use this information to compare their performances to the
other businesses or to their own previous performances and to have proper planning in
daily activities.

9.6. Accounting Cycle for Service-Type Businesses: Closing 1

Unit 9: Analyzing Business Transactions: Service Type of Business

Learning Objectives DepEd Competency

At the end of this lesson, you should be able to

Complete the accounting cycle
do the following: (ABM_FABM11-IVa-d -34).

● Identify the purpose of closing entries.

● Prepare closing entries.

● Prepare post-closing trial balance.

9.6. Accounting Cycle for Service-Type Businesses: Closing 2

Unit 9: Analyzing Business Transactions: Service Type of Business

Quick Look

Prepare Adjusting Entries

Alice is an accountant for Last Crusade Consulting, and she is tasked with preparing the
company’s financial statements for the year 202x. She has journalized the transactions,
posted them to the ledger, prepared an adjusted trial balance, and is now preparing closing
entries.

Questions to Ponder
1. Why are closing entries conducted at the end of the accounting period?

__________________________________________________________________________________________

__________________________________________________________________________________________

__________________________________________________________________________________________

2. What is the difference between adjusting entries and closing entries?

__________________________________________________________________________________________

__________________________________________________________________________________________

__________________________________________________________________________________________

3. What is the purpose of a post-closing trial balance?

__________________________________________________________________________________________

__________________________________________________________________________________________

__________________________________________________________________________________________

9.6. Accounting Cycle for Service-Type Businesses: Closing 3

Unit 9: Analyzing Business Transactions: Service Type of Business

Learn the Basics

Accounting for big or small businesses involves closing entries at the end of the accounting
period. It closes temporary or nominal accounts (i.e., revenue and expenses), withdrawal
accounts (for sole proprietorships), and dividend accounts (for corporations). It is done to
close out or zero out these accounts for its use in the next period. Permanent accounts
such as assets, liabilities, and owner’s capital accounts do not close at the end of the
accounting period.

Essential Question

Why is closing temporary accounts at the end of the accounting period

necessary for planning and decision-making?

In the last lesson, you learned how to prepare adjusting entries and an adjusted trial balance.
The account balances in the adjusted trial balance are then used to prepare the financial
statements. After preparing the financial statements, the Statement of Comprehensive
Income accounts and drawing accounts need to be closed, resulting in zero balances. These
accounts should be closed to measure the company's performance every accounting period.

Figure 1. Steps prior to the preparation closing entries

9.6. Accounting Cycle for Service-Type Businesses: Closing 4

Unit 9: Analyzing Business Transactions: Service Type of Business

The Closing Process

Closing Entries are general journal entries used to close the nominal accounts of the
business. They should be prepared at the end of the accounting period. The accounting
period for a business is usually one year. It may be longer or shorter depending on the
nature of the business. It may be a calendar year, that is, ending on December 31, or a fiscal
year, that is, ending on any month other than December 31.

An accountant prepares closing entries to zero out these nominal accounts. The closing
process involves transferring the balances of the revenue, expenses, and drawing accounts
to their respective real accounts. As a result, the income and expenses accounts are zero at
the start of the next accounting period. As the accounting period passes by, the
performance of the company during the year will be measured according to the balances of
the income and expenses. The business will know how well it did for the year and may
determine what it should do to achieve its goals and objectives.

The accountant must do closing entries at the end of the accounting period. The closing
entries are shown below.

1. Each balance of the revenue account should be debited. The total balance of all
debited revenue accounts should be credited to the Income Summary account.
2. Each balance of the expense accounts should be credited. The total balance of all
credited expense accounts should be debited in the Income Summary account.
3. The ending balance of the Income Summary account should be closed to the Owner's
Capital account. If the Income Summary account has a credit balance, the owner's
capital account should be debited and vice versa.
4. The drawing accounts should be credited, and the Owner's Capital account should be
debited. This is to close the balance of the drawing account to the Owner's Capital
account.

9.6. Accounting Cycle for Service-Type Businesses: Closing 5

Unit 9: Analyzing Business Transactions: Service Type of Business

After journalizing the closing entries, they should be posted to the general ledger, and the
balances of the nominal accounts should be closed and equal to zero.

Closer Look

KBMS’ closing process.

To illustrate the closing process, consider the adjusted trial balance of KBMS.

Kirie Business Management Services

Adjusted Trial Balance
December 31, 20x2

Account Name Ref Debit Credit

Cash 21,000
Accounts Receivable 45,600
Supplies 2,000
Prepaid Insurance 11,250
Equipment, Gross 290,000
Accumulated Depreciation 122,000
Accounts Payable 15,200
Unearned Consultation Fees 7,000
Taxes Payable 40,800
Notes Payable 40,000
Interest Payable 1,500
Kirie, Capital 143,700
Kirie, Drawing 5,000
Consultation Fees 90,300
Depreciation Expense 29,000
Administrative Expense 10,000
Advertising Expense 12,000
Rent Expense 20,000
Supplies Expense 4,400

9.6. Accounting Cycle for Service-Type Businesses: Closing 6

Unit 9: Analyzing Business Transactions: Service Type of Business

Insurance Expense 8,750

Interest Expense 1,500
Total 460, 500 460, 500

Step 1: Close each balance of the revenue account to the income

summary account.

General Journal Page 1

Date Account Title and Description Ref Debit Credit

20x2

Dec 31 Consultation Fees 90,300

Income Summary 90,300

To close the consultation fees

account.

Take note that only nominal accounts are being closed. Permanent
accounts are never closed at the end of the accounting period.

If the business has more than one revenue account, each balance should
be closed to the Income Summary account.

Step 2: Close each balance of the expense accounts to the Income

Summary account.

9.6. Accounting Cycle for Service-Type Businesses: Closing 7

Unit 9: Analyzing Business Transactions: Service Type of Business

General Journal Page 2

Date Account Title and Description Ref Debit Credit

20x2

Dec 31 Income Summary 85,650

Depreciation Expense 29,000

Administrative Expense 10,000

Advertising Expense 12,000

Rent Expense 20,000

Supplies Expense 4,400

Insurance Expense 8,750

Interest Expense 1,500

To close the expense accounts.

Step 3. Close the remaining balance of the Income Summary account.

Income Summary
Beg. bal 0
12/31 85,650 12/31 90,300

12/31 4, 650

9.6. Accounting Cycle for Service-Type Businesses: Closing 8

Unit 9: Analyzing Business Transactions: Service Type of Business

General Journal Page 3

Date Account Title and Description Ref Debit Credit

20x2

Dec 31 Income Summary 4,650

Kirie, Capital 4,650

To close the remaining balance

of the Income Summary
account.

Take note that any remaining balance of the Income Summary account
after closing the income and expense accounts is closed to the Owner's
Capital account. If the balance of the Income Summary account is on the
credit side, the business has earned an income during the accounting
period. The business will report a net loss if it is a debit balance. Finally,
the ending balance of the Income Summary account should be zero.

9.6. Accounting Cycle for Service-Type Businesses: Closing 9

Unit 9: Analyzing Business Transactions: Service Type of Business

Step 4: Close the drawing accounts to the Owner's Capital account.

General Journal Page 4

Date Account Title and Description Ref Debit Credit

20x2

Dec 31 Kirie, Capital 5,000

Kirie, Drawing 5,000

To close the drawing account.

After the closing process, all nominal accounts have been closed. The
accounts with balances are the permanent accounts.

Check Your Progress

Marie, an accountant in VGS, is posting closing entries at the end of the

accounting period for one of its clients. The owner of VGS is Niv, a successful
businessman. He noticed that the balance of the Income Summary account
has a debit balance of ₱14,300. Journalize and close the Income Summary
account.

9.6. Accounting Cycle for Service-Type Businesses: Closing 10

Unit 9: Analyzing Business Transactions: Service Type of Business

Preparation of a Post-Closing Trial Balance

After the accountant has journalized and posted the closing entries to the general journal
and general ledger, a post-closing trial balance should be prepared. This trial balance aims to
validate that the nominal accounts have been closed and the balances of permanent
accounts are tallied in the financial statements.

Closer Look

KBMS’ Post-Closing Trial Balance

After posting the closing entries, the accountant of KBMS can now prepare a
post closing trial balance.

Kirie Business Management Services

Post-Closing Trial Balance
December 31, 20x2

Account Name Ref Debit Credit

Cash 21,000
Accounts Receivable 45,600
Supplies 2,000
Prepaid Insurance 11,250
Equipment, Gross 290,000
Accumulated Depreciation 122,000
Accounts Payable 15,200
Unearned Consultation Fees 7,000
Taxes Payable 40,800
Notes Payable 40,000
Interest Payable 1,500
Kirie, Capital 143,350
Total 369, 850 369, 850

9.6. Accounting Cycle for Service-Type Businesses: Closing 11

Unit 9: Analyzing Business Transactions: Service Type of Business

The posting of the closing entries to the nominal accounts are shown
below.
Consultation Fees

12/31 90, 300 12/31 90, 300

Depreciation Expense

12/31 29, 000 12/31 29, 000

Administrative Expense

12/31 10, 000 12/31 10, 000

Advertising Expense

12/31 12, 000 12/31 12, 000

Rent Expense

12/31 20, 000 12/31 20, 000

9.6. Accounting Cycle for Service-Type Businesses: Closing 12

Unit 9: Analyzing Business Transactions: Service Type of Business

Supplies Expense

12/31 4, 400 12/31 4, 400

Insurance Expense

12/31 8, 750 12/31 8, 750

Interest Expense

12/31 1, 500 12/31 1, 500

Kirie, drawing

12/31 5, 000 12/31 5, 000

Kirie, Capital

12/31 12/31 143, 700

12/31 5,000 12/31 4,650

12/31 12/31 143, 350

9.6. Accounting Cycle for Service-Type Businesses: Closing 13

Unit 9: Analyzing Business Transactions: Service Type of Business

Income Summary
Beg. bal 0
12/31 90,300
12/31 85,650

12/31 4, 650 12/31 4, 650

Notice that after posting the journal entries to the general ledger, the
nominal accounts should have a zero balance at the end of the
accounting period. Furthermore, the Income Summary account balance
should also be equal to zero.

9.6. Accounting Cycle for Service-Type Businesses: Closing 14

Unit 9: Analyzing Business Transactions: Service Type of Business

Case Study

Benefits of Accounting Software

Using accounting software has been common in businesses through the
years. Examples of this software are Quickbooks, Xero, and ZAP
accounting software. This software has replaced spreadsheets as the
ideal device for recording financial transactions. In addition, because of
the pandemic caused by COVID-19 around the world, businesses are
considering investing in this software. According to the survey conducted
by Accounting Today for the year 2020, 41% of small businesses are
considering spending more on technologies such as this software. 60% of
the large companies will invest more in technologies.

Using accounting software has many benefits, such as secured databases

and automated record keeping. This accounting software will also
eliminate the recording and posting of closing entries to the general
ledgers. The nominal accounts will automatically zero out when you input
the date for the next accounting period. However, this does not mean
that business students will refrain from studying the process of closing
entries. Small businesses still use the traditional recording of
transactions, i.e.s, writing in the general journal and general ledger, as
buying an accounting software is a bit costly for small businesses.

Benefits of Accounting Software: Examples of Leading

Solutions Explained
Epstein, Daniel, “Benefits of Accounting Software: Examples
of Leading Solutions Explained,” FinancesOnline.com
(February 28, 2022),
https://financesonline.com/benefits-accounting-software-exa
mples-leading-solutions-explained/#:~:text=Leading%20Exam

9.6. Accounting Cycle for Service-Type Businesses: Closing 15

Unit 9: Analyzing Business Transactions: Service Type of Business

ples%20of%20Accounting%20Software%201%20Freshbooks.
%20FreshBooks,...%205%20Tipalti%20Approve.%20...%20Mor
e%20items...%20, last accessed July 21, 2022.

Keep in Mind

● The accountant should do the closing process at the end of the accounting period.
The steps before the preparation of closing entries are as follows.

● Only nominal accounts are to be closed. Permanent account balances will carry
forward to the next accounting period.
● The Income Summary account is used to close the revenue and expense accounts.
● After journalizing and posting the closing entries to the general ledger, the
accountant should prepare a post-closing trial balance.

Try This

True or False. Write true if the statement is correct. Otherwise, write false.

________________ 1. Closing entries are journalized at the start of the accounting

period.

________________ 2. The accountant should journalize and post the closing entries
first before adjusting entries.

________________ 3. After journalizing and posting the closing entries, only

temporary or nominal accounts have zero balances.

9.6. Accounting Cycle for Service-Type Businesses: Closing 16

Unit 9: Analyzing Business Transactions: Service Type of Business

________________ 4. The journal entry to record an advance payment of a business

for its expenses will include a debit to accrued expense.

________________ 5. The revenue account should be credited when it is closed to

the Income Summary account.

________________ 6. The expenses account should be debited when it is closed to

the Income Summary account.

________________ 7. The accrued revenue balance should be closed at the end of

the accounting period.

________________ 8. Closing the Owner’s Capital account involves a credit to the

Income Summary account.

________________ 9. The company may not choose to close the nominal accounts.

________________ 10. There is a net income when after the closing of the revenue
and expense accounts, the balance of the Income Summary
account has a credit balance.

Practice Your Skills

Determine the Ending Balance

Ruth is an accountant in the AM Dress Shop owned by Lysa. After she journalized and
posted the journal entries into the general ledger, she is now closing the nominal accounts.
After preparing the closing entries for all the revenue and expense accounts at the end of
the accounting period, the income summary account has a debit of ₱150,000 and a credit of
₱293,000. Furthermore, Lysa, Capital has a credit balance of ₱460,000, and Lysa, Drawing
account has a debit balance of ₱240,000.

9.6. Accounting Cycle for Service-Type Businesses: Closing 17

Unit 9: Analyzing Business Transactions: Service Type of Business

1. How much should be the balance of the Income Summary after closing all revenue
and expense accounts (indicate if net debit/credit)?

2. Based on your answer in the previous number, did the operations of the dress shop
result in a net income or net loss? Explain your answer.

3. What should be the journal entry to close the income summary account?

Company Name

General Journal Page

Date Account Title and Description Ref Debit Credit

4. What should be the journal entry to close the drawing account?

Company Name

General Journal Page

Date Account Title and Description Ref Debit Credit

9.6. Accounting Cycle for Service-Type Businesses: Closing 18

Unit 9: Analyzing Business Transactions: Service Type of Business

5. How much should be the amount of Lysa, Capital at the end of the accounting
period?

Challenge Yourself

KB Accounting Office offers bookkeeping, accounting, and auditing services to its client,
Pretty Accounting Office. Rit, an intern of KB Accounting Office, was tasked to close the
nominal accounts and create a post-closing trial balance for its client. Below are the
adjusted trial balance and the related adjustments of the Pretty Accounting Office.

Pretty Accounting Office

December 31, 20x2

Adjusted Trial
Trial Balance Adjustment Balance

Account Name Debit Credit Debit Credit Debit Credit

Cash 84,000 84,000
Accts Receivable 166,400 30,000 196,400
Office Supplies 0 4,500 4,500
Prepaid Adv. 80,000 15,000 95,000
Building,, Gross 1,160,000 1,160,000
Acc. Dep. 372,000 46,400 418,400
Accounts Payable 60,800 60,800
Unearned CF. 0 55,000 55,000
Salaries Payable 0 66,000 66,000
Taxes Payable 163,200 163,200
Notes Payable 160,000 160,000
Pretty, Capital 574,800 574,800
Pretty, Drawing 20,000 20,000
Consultation F. 373,200 55,000 30,000 348,200

9.6. Accounting Cycle for Service-Type Businesses: Closing 19

Unit 9: Analyzing Business Transactions: Service Type of Business

Dep. Expense 0 46,400 46,400

Admi Exp. 40,000 40,000
Adv. Expense 80,000 15,000 65,000
Salaries Expense 0 66,000 66,000
Office Supp Exp. 25,600 4,500 21,100
Insurance Exp. 48,000 48,000
Total 1, 704, 000 1, 704, 000 216, 900 216, 900 1, 846, 400 1, 846, 400

1. Write the closing entries in the general journal below.

Pretty Accounting Office

General Journal Page 1

Date Account Title and Ref Debit Credit

Description

9.6. Accounting Cycle for Service-Type Businesses: Closing 20

Unit 9: Analyzing Business Transactions: Service Type of Business

2. Determine the amount of net income or net loss of Pretty Accounting Office during the
period.

3. Prepare the post-closing trial balance.

Pretty Accounting Office

Post-Closing Trial Balance
December 31, 20x2

Account Name Ref Debit Credit

9.6. Accounting Cycle for Service-Type Businesses: Closing 21

Unit 9: Analyzing Business Transactions: Service Type of Business

Photo Credit

Man in Black Suit Working, by RODNAE Productions is free to use under the Pexels

license via Pexels.

Bibliography

“Closing Entry.” Corporate Finance Institute. Last modified January 30, 2022.
https://corporatefinanceinstitute.com/resources/knowledge/accounting/closing-entr
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Javed, Rashid. “Closing Entries.” Accounting for Management. Last modified October 13,
2021. https://www.accountingformanagement.org/closing-entries/.

Larson, Kermit D., John J. Wild, and Barbara Chiappetta. Fundamental Accounting Principles.
Boston: McGraw-Hill Irwin, 2002.

Stice, Earl K., Earl K. Stice, and James D. Stice. Financial Accounting Reporting & Analysis. New
Delhi: South Western, 2009.

Tuovila, Alicia. “Revenue Recognition as an Accounting Principle.” Investopedia. Last

modified May 20, 2022.
https://www.investopedia.com/terms/r/revenuerecognition.asp.

Williams, Jan, Mark Bettner, and Joseph Carcelo. Financial Accounting. New York: McGraw-Hill
Higher Education, 2017.

9.6. Accounting Cycle for Service-Type Businesses: Closing 22