Identify the key steps in the closing process that provide the most opportunity to make mistakes in processing account transactions. Make at least two (2) recommendations for improving the accuracy and reliability of the information in the gaps that you have identified. Justify your response.
Closing journal entries are made at year-end to prepare temporary accounts for the next accounting period. Temporary or nominal accounts (also referred to as income statement accounts), are measured periodically. The amounts in one accounting period should be closed or brought to zero so that they won’t be mixed with those of the next period. Temporary accounts consist of all revenue and expense accounts, and also withdrawal accounts of owners in case of sole proprietorships and partnerships. The purpose of closing entries is to prepare the temporary accounts for the next accounting period.
The four steps in preparing closing entries are:
- Close all income accounts to Income Summary
- Close all expense accounts to Income Summary
- Close Income Summary to the appropriate capital account.
- Close withdrawals to the capital accounts.
An impactful error can fall within the income summary. A common error may be an incorrect balance in the revenue or expense balance. Revenue accounts should have credit balances, while expense accounts should have debit balances. Some causes of this error is posting entries to the incorrect account, misclassifying accounts, and duplicating adjusting entries, which is the same reasons for having incorrect balances in Balance Sheet accounts.
To avoid this error it is important to check your income statement. The income statement is checked to make sure revenues and expenses have the correct balances. If there’s an account with an incorrect balance, you may pull up the detail of that account to find the entries that caused the error. This check should at least be performed monthly.