Accounting Cycle

There are eight steps to the accounting cycle and today you'll learn about all of them!

1. Analyze transactions

2. Journalize

3. Post

4. Prepare Work Sheet

5. Prepare Financial Statements

6. Journalize Adjusting and Closing Entries

7. Post Adjusting and Closing Entries

8. Prepare Post-Closing Trial Balance

First Step:Analyzing Transactions

Financial transactions start the process. Transactions can include the sale or return of a product, the purchase of supplies for business activities, or any other financial activity that involves the exchange of the company’s assets, the establishment or payoff of a debt, or the deposit from or payout of money to the company’s owners.

Second Step: Journalizing

The transaction is listed in the appropriate journal, maintaining the journal’s chronological order of transactions. The journal is also known as the “book of original entry” and is the first place a transaction is listed

Step Three: Posting

The third step in the accounting cycle is to transfer information from the journal to the ledger. A ledger is a book or an electronic record of all the accounts that a company has. These accounts are broken down by account number and class. When the information from the journal is transferred to the ledger, it is transferred to each account that was affected by a transaction.

Step Four

Unfortunately, many times your first calculation of the trial balance shows that the books aren’t in balance. If that’s the case, you look for errors and make corrections called adjustments, which are tracked on a worksheet. Adjustments are also made to account for the depreciation of assets and to adjust for one-time payments (such as insurance) that should be allocated on a monthly basis to more accurately match monthly expenses with monthly revenues. After you make and record adjustments, you take another trial balance to be sure the accounts are in balance.

Step Five:Preparing Financial Statements

These are prepared in a specific order because information from one financial statement is often used in preparing another financial statement. The order that the financial statements need to be prepared is:

  • Income Statement - This statement measures how well a company is performing financially during a specific time period. If the company made money, then it had a net profit. If it lost money, then it had a net loss.

  • Statement of Retained Earnings - This statement shows the effect of any profit or loss on the retained earnings of a company for a specific time period.
  • Balance Sheet - This statement summarizes the assets, liabilities and stockholder's equity of an organization at a given time. Asset accounts are always listed on the left side of the balance sheet, with liabilities and stockholder's equity on the right side. The balance sheet must follow the basic accounting equation formula of *Assets = Liabilities + Stockholder's Equity*, meaning that the total balance from all accounts on the left side of the balance sheet must equal the total balance from all accounts on the right side of the balance sheet.

  • Statement of Cash Flow - This statement shows how much money is made and spent by a company during a given time period.

Step Six: Journalize Adjusting and Closing Entries

This is the transferring of adjustments into the journal from the worksheet as well as transferring balances from temporary accounts to the income summary. These accounts are the drawing, expenses, and revenue accounts. Next, the income summary is transferred to the capital.

Step Seven: Post Adjusting and Closing Entries

This process is taking the transactions of copying the changes into sub-ledgers. The accountant also closes out the temporary accounts; making the totals equal zero.

Step 8: Prepare Post-Closing Trial Balance

The last step in the accounting cycle is to prepare a post-closing trial balance. The post-closing trial balance should only contain the permanent accounts that are used in the company and their balances. All temporary accounts should have been taken care of with the closing entries. Again, the total balance of all debit accounts must equal the total balance of all credit accounts. You close the books for the revenue and expense accounts and begin the entire cycle again with zero balances in those accounts.

Accounting Cycle

By DJ Boyer