Closing of Incomes and Expenses

Share Accounting Article below:

At the end of an accounting period businesses close  the nominal accounts (accounts for all incomes and expenses) by transferring their balances to the income statement. The reason is that these revenue items are related to current year and not to the next year so they are closed (transferred) to the income statement to which they relate.

As we know that income statement is a part of double entry system so each item (income or expense account) recorded in income statement must have a corresponding entry in its respective account. Through transferring balances of these accounts to income statement, we are actually completing the double entry process of closing nominal accounts.

This process is explained with reference to accounts, prepared at the following pages:

Purchase transactions in accounting page, Sales transactions in accounting page, Purchase returns or return outwards page and Sales returns or returns inwards page.

Closing of Incomes and Expenses

Double entry for the above closing entries may be completed by preparing a trading account.

Trading Account Preparation:

Trading Account

We know that return inwards (sales returns) reduce the amount of sales income whereas return outwards (purchase returns) reduce the amount of purchase expenses.  We also know that arithmetically, there will be no difference, if an amount is added on the debit side or subtracted from the credit side. So in view of this; returns may be subtracted in trading section of income statement from their respective sides (sales or purchases). Assuming there is no inventory at start or at the end of the period then trading section of income statement would appear as follows:

Trading Section of Income Statement (Account Form or Horizontal Style):

Trading Section Horizontal Style

* Return outwards has credit balance but is shown on the debit side of the trading section. Likewise returns inwards has debit balance but is shown on the credit side of the account. However, as these balances have been deducted from the respective totals of the debit and credit sides, the effect is the same as if they appeared on their correct sides.

Trading Section of Income Statement (Vertical Style):

Trading Section Vertical Style