Definition: The accounting cycle is a series of steps taken each accounting period culminating with the preparation of financial statements. In other words, the cycle is a set of reoccurring bookkeeping procedures designed to record accounting information and create financial statements for end users.
There are nine main steps in the accounting cycle starting with identifying business events that need to be recorded. Before anything can be recorded in an accounting system, specific events must be identified.
Next, journal entries are made to record the transactions in the accounting system and the various T-accounts. These T-accounts are then used to prepare an unadjusted trial balance. This trial balance represents the actual account balances in the ledger. It does not however reflect the balances that should be in the accounts. Some period-end adjustments typically need to be made before the books can be closed.
The unadjusted trial balance is modified with adjusting journal entries to correct account balances for errors and record expenses like depreciation that are usually booked at the end of a period.
Once the T-accounts have been adjusted, a new trial balance called the adjusted trial balance can be created to reflect the new changes. This trial balance represents the accounts with their corrected balances at the end of the accounting period.
After the adjusted trial balance is created, the temporary accounts are closed to the permanent accounts with a series of closing journal entries. All of the income and expense accounts are typically closed to a general income summary account, which is later closed to the retained earnings or capital account.
What Does Accounting Cycle Mean?
Once the accounts have been closed, the general purpose financial statements can be prepared. A standard set of financial statements includes a balance sheet, income statement, cash flow statement, and statements of changes in equity. This completes the accounting cycle for the period.
After the financials are prepared, the next period opens and the cycle starts over again.