Closing Entries: A Loss Does Not Erase Cash

5 questions0m 0s

Prerequisites

First practice the four closing steps with a profit. Read debit and credit balances and keep owner drawings separate from expenses. Use only these fictional records.

Learn the skill

Use the same four steps as for a profitable period: revenue to Income Summary, expenses to Income Summary, summary to Owner Capital, drawings to Owner Capital. If expenses exceed revenue, Income Summary has a debit balance: credit Income Summary and debit Owner Capital to close the loss. Drawings also reduces capital, but is not an expense. A post-closing trial balance includes nonzero permanent balances, not the cleared temporary ones.

Worked example

Separate example: credit Revenue 20 and debit Expense 35 leave Income Summary with debit 15 after those accounts close. Debit Owner Capital 15 / credit Income Summary 15 closes the loss. Debit Owner Capital 4 / credit Drawings 4 closes a recorded withdrawal. Starting capital credit 100 becomes credit 81. Neither closing entry changes Cash.

A separate example closes revenue of 20 and expense of 35 into Income Summary, leaving a debit loss of 15. Debit Owner Capital 15 and credit Income Summary 15 clear the summary. Cash is unchanged by these closing entries. — A debit summary balance closes in the opposite direction from a credit profit balance.

Paper Flag Workshop / End of October

Use fictional dollars and these adjusted balances before closing: Cash debit 110; Equipment debit 60; Accounts Payable credit 30; Owner Capital credit 180; Service Revenue credit 40; Rent Expense debit 45; Supplies Expense debit 20; Drawings debit 15. Income Summary starts at zero. All adjustments and financial statements are complete. There are no other accounts or new transactions. Use the four-step Income Summary method. Drawings was already recorded; it is not an additional cash payment.

Question 1 After closing revenue and expenses, how large is the debit balance in Income Summary? Answer

Question 2 Which entry clears this Income Summary balance? Debit Income Summary 25; credit Owner Capital 25 Debit Owner Capital 25; credit Income Summary 25 Debit Cash 25; credit Income Summary 25

Question 3 Which entry closes the recorded Drawings balance? Debit Drawings 15; credit Cash 15 Debit Supplies Expense 15; credit Drawings 15 Debit Owner Capital 15; credit Drawings 15

Question 4 What is Owner Capital's credit balance after all closing steps? Answer

Question 5 What happens to Cash and Accounts Payable during these closing entries? Cash becomes zero and the debt is forgiven Cash stays debit 110 and Accounts Payable stays credit 30 Cash falls by the loss and Accounts Payable becomes zero