Definition: A closing entry is a journal entrymade at the end of an accounting period to transfer the temporary account balances to the permanent accounts. In other words, closing entries zero out or close temporary accounts and move their balances to permanent accounts to be carried forward to the next period. Closing entries complete the last stage of the accounting cycle and prepare the books for the next period.
What Does Closing Entry Mean?
Temporary accounts are income statement accounts that start each accounting period with a zero balance. So, revenue, expense, gain, and loss accounts are all closed at the end of a period to retained earnings (for corporations), member’s capital accounts (for partnerships), or an income summary account. The income summary account is also a temporary account that is closed out at the end of the period.
Permanent accounts, on the other hand, are balance sheet accounts that maintain a balance from period to period. All asset, liability, and owner’s equity accounts, with the exception on dividends and distributions, carry forward balances from one period to the next.
Sometimes it’s easier to look at an example. Assume Bill’s Brewery earns $10,000 of income for the year and has $5,000 of expenses. Bill also has $8,000 of assets and $3,000 of liabilities. At the end of the accounting period, Bill would record a closing entry to debit the revenue account for $10,000, credit the expense account for $5,000 and credit the retained earnings account for $5,000.
After the closing entry is made, Bill’s balance sheet would list $8,000 of assets, $3,000 of liabilities, and $5,000 of equity. These ending balances will carry forward and become the beginning balances in the next period. The income and expenses accounts, on the other hand, will have a zero ending balance and will start the next year with a zero balance.