Companies record accounting entries during a period. These entries concern business transactions that they face during that period. Usually, companies record these transactions as they occur. During this process, they consider various accounting principles and standards.
Companies use journal entries to record those transactions. Before that, companies may also put them on the books of prime entry. These transactions then end up on a general ledger.
Companies post sums of transactions into a related general ledger account. At the end of each accounting period, companies close those accounts.
Usually, this process involves calculating a debit or credit balance for each ledger account. These balances then get transferred to the trial balance. The trial balance is a record that holds various account balances at each accounting period’s end.
The information from the trial balance is crucial in preparing the financial statements. These statements summarize the business transactions for a period in a specific format. However, companies must close their accounts and balances before completing this process.
Companies can achieve it through end journal entries. These entries occur at each year-end and can relate to specific accounts. Therefore, it is crucial to understand what they are.
What is End Journal Entry?
An end journal entry is an accounting entry made at the end of an accounting period. Another name used to describe these entries is closing journal entry.
Usually, end journal entries involve shifting data from temporary accounts on the income statement. Companies use them to transfer that data to permanent accounts on the balance sheet. Therefore, end journal entries act as a link between the two primary financial statements.
End journal entries cover three crucial areas, revenues, expenses, and dividends. The former two areas relate to the income statement.
Usually, companies record those items in temporary accounts, which they can transfer later. The latter area concerns dividends, which relate to the balance sheet. They also impact the cash flow statement. However, the balance sheet influence is the primary concern for companies.
The primary objective of an end journal entry is to set the temporary account balance to zero. These entries allow companies to reset revenue, expense, and dividend accounts.
This way, they can create a temporary account for further transactions in the next accounting period. At the end of that period, companies can repeat the cycle. This cycle continues forever as accounting principles dictate it to happen.
End journal entries also concern the balance sheet. In that context, it targets the retained earnings account. Sometimes, this account may also be called accumulated profits or losses.
Either way, it represents a permanent account compared to the temporary ones mentioned above. Companies use the retained earnings account to transfer balances from those temporary accounts.
Overall, end journal entries cover the closing of temporary accounts relating to the income statement. Companies use these entries to transfer balances from those accounts to permanent ones. Usually, it involves three areas, revenues, expenses, and dividends.
These get transferred to retained earnings, where they stay permanently. After it happens, the balances on those accounts become zero.
How to end journal entry?
End journal entries involve transferring balances from temporary to permanent accounts. Usually, this involves three accounts.
Companies can use end journal entries in several steps to perform the transfer. Most companies create a temporary account in between the transfer process. From that account, they transfer the residual balance to retained earnings. However, it usually applies to revenues and expenses only.
There are several steps involved in using end journal entries. Each of these has a purpose in allowing companies to transfer temporary accounts to permanent ones. An explanation of each of these steps with the journal entries is available below.
1. Close revenue accounts
For end journal entries, companies first summarize the revenue account in the general ledger. In some cases, companies may have various revenue accounts. Either way, they must collect the income from those accounts and post them to the income summary.
Here, the income summary is the temporary account created during the transfer process. Usually, this process involves debiting the revenue accounts and crediting the income summary.
Companies use the following journal entries to transfer revenues to the income summary account.
Companies can use the above journal entries for each revenue account in their books. Once they complete the process, the balance on those accounts will be zero.
However, the income summary account will hold all the amounts transferred. Companies can then transfer those balances to retained earnings later.
2. Close expense accounts
After closing revenue accounts, companies must turn towards expenses. This process is similar to the one used above. Firstly, it involves identifying the various areas where companies incur costs.
These accounts must have balances to transfer. Once companies do so, they must transfer those balances to the income summary account. However, the journal entries are the opposite of those used for revenues.
Companies use the following journal entries to transfer expenses to the income summary account.
Companies must use the same journal entry for each expense account. At this point, the income summary account will have two sides.
The debit side will consist of the expenses, while revenues will appear on the credit side. At this point, companies may calculate their profits and losses as well.
3. Transfer income summary balance to retained earnings
Once companies close their revenue and expenses accounts, they must focus on the income summary. Companies must use a similar process for this account as other general ledger accounts.
Therefore, they must balance the account. If this balance appears on the debit side, it will denote a profit for the company. For a credit balance, it will be a loss. Either way, companies must transfer this balance to the retained earnings account.
Companies can use the following journal entries to transfer profits to the retained earnings account.
In case of losses, the following journal entries will apply instead.
At this point, companies will have transferred all revenues and expenses to retained earnings. The income summary account will also have completed its usage. After these entries, this account will remain inactive until the next period ends.
However, these journal entries do not constitute the final part of the end journal entries. Companies must still follow one more step.
4. Transfer paid dividends to retained earnings
Companies also pay out dividends that impact their retained earnings. However, they do not post those transactions to the latter account directly.
Instead, companies hold paid-out dividends on a separate account. If this account has a balance at period end, companies transfer it to retained earnings. This transfer is similar to revenues and expenses. However, it does not involve another temporary account, i.e., the income summary.
Companies can use these journal entries to transfer dividends paid to retained earnings.
This journal entry will decrease the balance in the dividend account to zero. On the other hand, it will reduce the retained earnings for the same amount.
For the upcoming period, the dividends paid will impact the same account. Therefore, companies will use the same process to transfer balances to retained earnings.
End journal entries are accounting entries to close the books. They involve transferring balances from temporary accounts to permanent ones.
Usually, they impact three areas: revenues, expenses, and dividends. Companies transfer balances from those accounts to the retained earnings account. End entries can help with this process.