Accounting Cycle: Steps and Procedures

• The accounting cycle encompasses the steps and procedures for recording transactions and preparing financial statements.
• The accounting cycle implements the whole accounting process.
• The steps should be followed chronologically.

Steps in the Accounting Cycle:

• Analysis of business transactions or documents.
• Journalizing.
• Posting.
• Preparation of the unadjusted trial balance.
• Preparation of adjusting entries.
• Preparation of the financial statements.
• Preparation of closing entries.
• Preparation of post-closing trial balance.
• Preparation of reversing entries.
• The unadjusted trial balance, post-closing trial balance, reversing entries, and worksheet are optional steps.
• An entity must analyze the correct treatment when recording a transaction.
• In accounting, every transaction is recorded in an account, having two sides: DEBIT and CREDIT.
• The analysis of accounts for debit or credit recording occurs before the journal entry.
• A "Journal" serves as the "Book of Original Entry," where transactions are first recorded.
• Transactions recorded in a journal are then summarized in the ledger, known as the "Book of Final Entry."
• The summarization process in the ledger is called "Posting."
• After recording and summarizing transactions, the account has a running balance, forming the basis for the unadjusted trial balance.
• The unadjusted trial balance is adjusted with the prepared adjusting entries.

Adjusting Entries

• Adjusting Entries are made at the end of each accounting cycle.
• Adjusting entries split mixed accounts or update accounts.
• Adjusting entries allocate revenues and expenses between current and future periods.
• All adjusting entries involve at least one Balance Sheet (Real) account and one Income Statement (Nominal) account

Adjusting Entries Include:

Accruals:

• Divided into two types: accrued expenses and accrued income.
• Accrued expenses (also known as accrued liabilities) are expenses recorded before payment, recognized in the accounting period they’re incurred.
• The adjusting entry to record accrued expenses debits Expense and credits Payable.
• Accrued income is money earned in the ordinary course of business but not yet received or billed to the customer.
• The adjusting entry to record accrued income debits Receivable and credits Revenue.

Depreciation:

• Depreciation is a systematic allocation of cost over an asset's useful life.
• The adjusting entry to record depreciation debits Depreciation Expense and credits Accumulated Depreciation.
• Recording of depreciation is done on a regular basis (usually annually).
• Depreciation expense is charged against income for the current period.
• The accumulated depreciation account is a Contra Asset account, offsetting the related asset.
• The accumulated depreciation account balance shall be netted against the cost of the asset, known as the Book Value or Carrying Value.

Worksheet Preparation

• A worksheet is a multi-column sheet used by accountants to compile and summarize data for financial statement preparation.
• Accountants prepare a worksheet when adjustments are needed and financial statements are being prepared.
• Worksheets facilitate the preparation of financial statements.

Closing Process

• Closing Entries are made at the end of an accounting period.
• Closing Entries are completed after adjusting entries and financial statements to close nominal or all temporary accounts.
• Closing an account means reducing its balance to zero.
• Closing the books applies the PERIODICITY CONCEPT.

CLOSING ENTRIES include:

• Closing expenses to the income summary account.
• Closing revenues to the income summary account.
• Closing the income summary account to capital.
• Closing withdrawals to capital.

The Reversing Process

• Reversing Entries are made at the beginning of a new period.
• Reversing entries transfer all accrued and prepaid items established by adjusting entries to nominal accounts for recording transactions in the new period.
• The purpose is to simplify the recording of some transactions.
• Reversing entries are literally the reverse of the original entry.

REVERSING ENTRIES include:

• Accrued Expenses.
• Prepaid Expenses using the expense method.
• Accrued Income.
• Deferred Income using the income method.