Closing Entry

Businesses measure revenue and expenses over a defined accounting period, and without closing temporary accounts last period's income would mingle with new activity and make a new-period report misleading. Closing entries mark the boundary.

They come after adjustments that recognise accrued or deferred items for the period, since otherwise the final income figure may omit revenue earned or expenses incurred before the cutoff, and the adjusted trial balance supplies balances for the close. A revenue account normally has a credit balance, so to close it the accountant debits the account for its full balance and credits a corresponding summary or equity account, and the revenue history remains in the prior period's records.

An expense account normally has a debit balance, so its closing entry credits that account and debits income summary or the chosen equity route, removing its accumulated period balance before new expenses arrive. One common sequence uses income summary as an intermediate account: revenue closes into it, expenses close out of it, and its resulting balance equals the period's net income or loss.

That balance then goes to retained earnings. For a net profit, income summary has a credit balance before its final transfer, so debiting income summary and crediting retained earnings clears it and increases retained earnings, while a net loss reverses that direction and reduces retained earnings.

The intermediate account can help check the transfer against the income statement, and some systems close revenue and expenses directly to retained earnings, reaching the same ending equity. A corporation may also close a dividends account into retained earnings, since dividends are distributions to owners, not an expense incurred to earn revenue, and they reduce retained earnings separately from calculating net income.

Permanent accounts are not reset to zero by this process, so cash, accounts payable and retained earnings must continue to show their existing balances after the period changes. Retained earnings is updated by the close, not itself erased.

The timing can be monthly, quarterly or annually according to the organisation's reporting cycle, so the word 'annual' is not part of the definition. Once the entries are posted, a post-closing trial balance checks that remaining ledger debit and credit balances agree, and it should contain the permanent accounts and not a leftover ordinary service revenue or rent expense balance.

A balanced trial balance does not by itself prove every transaction is correct, because an expense posted to the wrong category could leave total debits and credits equal, so closing is one control in a larger review process. Accounting software may generate entries automatically, but an operator still needs to verify period dates, account mapping and reconciliations, since a misconfigured account type can close a balance that should carry forward or leave a temporary account open.

This accounting meaning differs from closing a bank account, a real-estate sale or a stock position. No cash disappears when a revenue account is debited at closing.