Unit VI: Year-End Closing and Reversing Entries

Closing entries reset temporary nominal accounts (Revenues, Expenses, Drawings) to a zero balance at the end of the year, preventing past operational data from bleeding into the next financial cycle.

Step 1 — Clear Revenue Accounts: Debit all individual revenue accounts to clear their credit balances, and credit the total sum into the Income Summary clearing account.

Step 2 — Clear Expense Accounts: Credit all individual expense accounts to clear their debit balances, and debit the total sum into the Income Summary account.

Step 3 — Clear Income Summary to Capital:

If the business generated a Net Income (Income Summary holds a net credit balance), clear it out via:

$\text{Debit: Income Summary} \\ \text{Credit: Owner's Capital Account}$

If the business incurred a Net Loss (Income Summary holds a net debit balance), clear it out via:

$\text{Debit: Owner's Capital Account} \\ \text{Credit: Income Summary}$

Step 4 — Clear Drawing Account: Transfer the personal drawing balance directly into capital:

$\text{Debit: Owner's Capital Account} \\ \text{Credit: Owner's Drawing Account}$

Reversing entries are optional bookkeeping adjustments performed on the first day of a new accounting cycle. They exactly switch the debits and credits of specific period-end adjustments to simplify subsequent routine cash transactions.

General Rule for Reversals

Items to Reverse: Adjustments that create a brand-new asset or liability (e.g., Accrued Expenses, Accrued Revenues, Prepayments tracked via the Expense Method, and Unearned Revenue tracked via the Revenue Method).

Items Never Reversed: Structural entries that do not cause a future cash transaction (e.g., Depreciation adjustments, changes to Allowance for Bad Debts).

Analyze the transactional descriptions below. On your workspace sheet, determine the two accounts altered and state whether they increase (+), decrease (-), or experience no change (NC).

1. An entrepreneur launches a commercial cleaning service by transferring 700,000 Pesos from personal savings into a newly opened corporate bank account.
2. The entity purchases industrial cleaning machinery valued at 50,000 Pesos, securing credit terms that permit total payment settlement in 60 days.
3. Corporate operational office supplies are acquired for 3,000 Pesos via check disbursement.
4. The entity issues a check to pay off the 50,000 Pesos debt outstanding from the machinery purchase in item 2.
5. The business performs professional services for a customer and immediately collects 75,000 Pesos cash.
6. A customer is billed 150,000 Pesos on account for long-term contract services rendered.
7. The company collects 50% of the outstanding client balance from item 6.
8. The owner withdraws 10,000 Pesos cash from the corporate accounts for personal family expenditures.

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