Closing balance

Closing balance
See also
Income summary account T account Post closing trial balance Income summary Comparative statements Closing the accounts Opening balance sheet Time period concept Opening entries

Closing balance is an amount that appears on an account at the end of reporting period. Such balance, later on, is transferred to the closing balance sheet. In consequence the account is closed and additional item appears in closing balance sheet (R.Nothhelfer 2017, 17).

Not every account is closed directly to the closing balance sheet; there is a hierarchy of accounts that says on what account particular account can be closed(R.Nothhelfer 2017, 18):

1. Account to be closed – closing account,
2. Income, expense – income statement,
3. Income statement – equity,
4. Asset accounts equity accounts, liability accounts – balance sheet,
5. Subledger accounts – corresponding general ledger account.

All transactions that had been recorded during the reporting period are summarized in the closing balance sheet. Regardless hierarchy of accounts or multiple closing entries. All accounts have to be closed at the end of every reporting period (R.Nothhelfer 2017, 18).

Whatever is a closing balance, it is always written on the reverse side of the opening balance. If closing balance appears on the credit side then opening account will appear on the debit side. Balancing the accounts is only possible in case of real and personal accounts but not in a case when an account in nominal because the balance of that account goes directly to profit or loss account (V.K. Goyal 2006, 44).

Trial balance

Trial balance is a list of accounts and balances at specific time. Usually, trial balances are prepared at the end of every accounting period. List of accounts has the same order as it appears in the ledger. Credit balances appear in the right column and debit balances are listed on the left side. Total of both columns have to be equal. The main purpose of trial balances is to prove that both sides, debits and credits, are mathematically equal(S. Carlton and others 2012, 119).

Also, trial balance helps to uncover various errors in journalizing and posting e.g. posting unequal amounts after omitting one side of the journal. Trial balance also helps in identifying errors that could lead to account having a credit balance when it should have debit balance and vice versa. Additionally, trial balance is useful during preparation of financial statements(S. Carlton and others 2012, 119).

Procedure of trial balance preparation(S. Carlton and others 2012, 119):

1. List account names, balances and numbers,
2. Total credit and debit columns,
3. Verify the equality of both columns.

Although, trial balance is very helpful in identifying errors it does not guarantee that every transaction, in ledger, that have been recorded is correct. Many errors can occur within accounts even though balances of columns agree(S. Carlton and others 2012, 119).

T-accounts

A T-account is a tool that helps to manage and accumulate account entries of transactions such as cash, bonds payable or accounts receivable. Name implies that t-account looks like the letter T. Horizontal line, account title appears above it, is bisected by a vertical line(C.P. Stickney and others 2009, 51).

Decrease and Increases to the T-account. One side formed by the line records decreases and the other side records increases. Which side records which records depends on whether it is asset account or shareholders’ equity account or an account that represent a liability. Although t-account seems simple to use, there are three rules(C.P. Stickney and others 2009, 51):

1. Increases of assets appear on the left side and decrease of them appears on the right side.
2. Increase of liabilities appears on the right side and decrease of liabilities appears on the left side.
3. Same rule concerns sharehlders’ equity. Increase of them appears on the right side, decrease appears on the left side.

As it is noted above, the balance in the account results from summing records from the left and right side and netting the two sums. The balance on the account at the end of reporting period is the same as opening balance of the next reporting period which happens to appear to be in the first line of T-account reports(C.P. Stickney and others 2009, 52).

Credit and Debit

When Debit (Dr.) is used it means that the records’ entry is on the left side. Credit (Cr.), on the other hand, means records’ entry is on the right side. Credit indicates an increase in liability and shareholders’ equity but decrease in asset. Debit indicates decrease in liability and shareholder's equity and increase in asset. Maintaining equal balance of the account means that the amounts debited equal amounts credited on various accounts(C.P. Stickney and others 2009, 52).

Examples of Closing balance

• Cash closing balance: This is the amount of cash left in the business’s account at the end of a financial reporting period. For example, a company may have $10,000 in its checking account at the start of the month and $14,000 at the end of the month. The difference of $4,000 is the cash closing balance.
• Bank closing balance: This is the total amount of money in the bank account at the end of the period. This includes the money that has been deposited or withdrawn from the account during the period. For example, a business may have had $100,000 in its business bank account at the start of the month and $110,000 at the end of the month. The difference of $10,000 is the bank closing balance.
• Inventory closing balance: This is the amount of inventory a business has at the end of a reporting period. For example, a business may have had $50,000 worth of inventory at the start of the month and $60,000 worth of inventory at the end of the month. The difference of $10,000 is the inventory closing balance.
• Accounts receivable closing balance: This is the total amount of money owed to the business at the end of a reporting period. For example, a business may have had $25,000 in accounts receivable at the start of the month and $30,000 at the end of the month. The difference of $5,000 is the accounts receivable closing balance.
• Accounts payable closing balance: This is the total amount of money the business owes at the end of a reporting period. For example, a business may have had $20,000 in accounts payable at the start of the month and $15,000 at the end of the month. The difference of $5,000 is the accounts payable closing balance.

Advantages of Closing balance

The closing balance is an important tool for assessing an organization's financial health and stability. It provides an overall view of the financial situation and helps determine the current and future performance of the company. The following are some of the advantages of closing balance:

• It helps assess the financial health of a company. By comparing the closing balance from one period to the next, companies can identify trends and make informed decisions about their finances.
• It provides a clear view of the organization's overall financial position. By looking at the closing balance, managers can quickly understand the financial situation of the company.
• It helps identify potential problems. By looking at the closing balance, managers can quickly identify potential issues, such as a decrease in revenue or an increase in expenses. This allows them to take corrective action before the situation becomes more serious.
• It helps establish financial goals. By looking at the closing balance, managers can set financial goals and take steps to reach them. This allows them to create a budget and plan for the future.

Limitations of Closing balance

The closing balance can be limited in several ways. To begin with, it does not account for the transactions that occurred after the end of the reporting period but before the balance sheet is finalized. Additionally, the closing balance does not account for the transactions that were incorrectly recorded, leading to potential discrepancies between the actual and reported balance. Furthermore, the closing balance does not account for any adjustments that needed to be made to the balance before closing, such as depreciation or amortization. Finally, the closing balance cannot capture any changes in the market value of assets and liabilities, which can have a significant effect on the financial position of the company.

Other approaches related to Closing balance

In addition to being reported on the balance sheet, closing balance can be used in different ways, such as:

• Determining profitability – Closing balance can be used to evaluate whether or not a company is profitable. It can be calculated by subtracting total expenses from total revenues.
• Tracking financial performance – Closing balance can be used to track the financial performance of a business over time. It can be used to monitor changes in income, expenses, and other financial metrics.
• Analyzing liquidity – Closing balance can be used to measure the liquidity of a business. It can be used to measure how much cash a business has available to pay its bills and other liabilities.

In conclusion, closing balance is an important tool for evaluating the financial performance and liquidity of a business. It can be used to determine profitability, track financial performance, and analyze liquidity.

References

• Carlton S. and others (2012), Accounting, Google eBook: Building Business Skills, John Wiley & Sons, 119
• Goyal V.K. (2006), Financial Accounting, Excel books, Delhi, 44
• Nothhelfer R. (2017), Financial Accounting: Introduction to German GAAP with exercises, Walter de Gruyter GmbH & Co KG, 17-18
• Stickney C.P. (2009), Financial Accounting: An Introduction to Concepts, Methods and Uses, Cengage Learning, 51-52

Author: Jolanta Jańczy