Income summary

Income summary is a temporary account that is only used during the closing process. At the beginning of the closing process income summary has no balance. During the closing process, income summary will be debited and credited for various amounts. At the end of the closing process, income summary will again have no balance. Because of the fact that income summary has the effect of clearing the revenue and expense accounts of their balances, it is usually called a clearing account.

The Income Summary is very temporary since it has a zero balance throughout the year until the year end entries]] are made. Next, the balance resulting from the closing entries will be moved to Retained Earnings or the owner's capital account. Other claims use for this account include revenue and expense summary, profit and loss summary as well as income and expense summary.

When closing the accounts in the income statement accountants can choose to close them directly and transfer the values to the retained earnings account or transition them to the income summary account before finally transferring them to the retained earnings account.

In a manual accounting system, the closing entries will result in the following amounts in Income Summary:

• A credit amount for the total amount of the general ledger income statement accounts that had credit balances
• A debit amount for the total amount of the general ledger income statement accounts that had debit balances

Income summary is used to summarize the closing entries for the revenue and expense accounts. The income summary is unique because it does not have normal balance side. The balance of this account is determined by the amounts posted to the account end of a fiscal period.

Division of the Income Summary

There are two types of Income Summary:

• Debit - total expenses greater than revenue. Debit balance is the net loss.
• Credit - revenue greater than expenses. Credit balance is the net income.

The income summary account is a credit or a debit dependent upon whether the business earns a net income or incurs a net loss.Because income summary is a temporary account, the account is also closed at the end of a fiscal period when the net income or net loss is recorded.

Closing process

Closing process involves four steps:

• Debit each revenue account for its balance and credit income summary for the total revenue
• Credit each expense account for its balance and debit income summary for the total expense
• Debit income summary for its balance and credit the owners capital account
• Debit the owners capital account for the drawing account and credit the drawing account

Closing entries are recorded in the journal and are dated as of the last day of the accountaining period. In the journal closing entries are recorded immediately following the adjusting entries.

Examples of Income summary

• Income summary can be used to close out multiple income and expense accounts at the end of an accounting period. For example, a company may have multiple income accounts such as sales revenue, rent income, and interest income. All of these accounts would be credited to the income summary account and then the total would be transferred to the retained earnings account. Similarly, all of the company’s expense accounts would be debited to the income summary account and then the total would be transferred to the retained earnings account.
• Income summary can also be used to transfer income and expenses from one accounting period to the next. For example, if a company has income from a previous accounting period that has not yet been reported, the income can be transferred to the income summary account and then reported in the current accounting period. Similarly, expenses from a previous period can be transferred to the income summary account and then reported in the current accounting period.
• Income summary can also be used to transfer income and expenses between departments or divisions. For example, a company may have multiple departments or divisions that need to transfer income or expenses between them. This can be done by transferring the amounts to the income summary account, and then transferring the total amount to the appropriate department or division.

Advantages of Income summary

Income summary is a useful tool for closing entries as it has a number of advantages. These include:

• Simplifying the closing process: Since income summary is a temporary account, it helps to simplify the closing process by enabling the transfer of all revenue and expense account balances to one account. This eliminates the need for separate closing entries for each of the individual accounts.
• Consolidating totals: Income summary also helps to consolidate all the revenues and expenses into one place, which makes it easier to identify the net income or net loss of the period.
• Ensuring accuracy: By consolidating everything into one account, income summary makes it easier to identify and correct any mistakes in the closing process, thereby ensuring accuracy and reliability.
• Facilitating trial balance: By eliminating the need to manually transfer balances from each revenue and expense account to the trial balance, income summary significantly reduces the time spent on the trial balance preparation.

Limitations of Income summary

One of the main limitations of the income summary account is that it is not a permanent account, and therefore, its balance is not included in the financial statements. The following are some of the other limitations of the income summary account:

• It is unable to provide detailed information regarding the individual income and expense accounts that it covers.
• It cannot be used to make adjusting entries or to record individual transactions.
• It has no effect on the overall financial position of the business.
• It cannot be used to calculate taxes or other liabilities.

Other approaches related to Income summary

Income summary is a temporary account used during the closing process. This account helps to clear the revenue and expense accounts of their balances. There are several other approaches related to income summary. They include:

• Accrual Accounting - This method of accounting records income and expenses as they occur, regardless of when the money is actually received or paid out. This approach is often used when preparing financial statements.
• Budgeting - This is the process of creating a plan that outlines the expected income and expenses of a business over a period of time. This helps to better manage cash flow and ensure that expenses are kept within budget.
• Variance Analysis - This is the process of comparing actual results to the budgeted amounts to identify any significant differences in performance. This helps to identify areas that need improvement or where cost savings can be achieved.
• Cash Flow Analysis - This is the process of tracking the flow of money into and out of the business. This helps to identify sources of income and areas where cash can be saved.

In summary, Income Summary is a temporary account and there are several other approaches related to it such as accrual accounting, budgeting, variance analysis and cash flow analysis which helps to better manage cash flow and ensure that expenses are kept within budget.

Footnotes

Income summary — recommended articles

Reversing entry — Deposits in transit — Closing entry — Nominal account — Temporary account — Closing entries — Post closing trial balance — Closing the accounts — Income summary account

References

• Gilbertson C.B, Lehman M.W. (2014), Accounting "Cengage Learning"
• Warren C.S, Reeve J.M, Duchac J. (2010), Corporate Financial Accounting "Cengage Learning"
• Warren C.S, Reeve J.M, Duchac J.(2010), Accounting "Cengage Learning"

Author: Patrycja Bajda