Overview of the Accounting Cycle Steps
The accounting cycle consists of eight to ten steps that repeat every accounting period, whether that period is a month, quarter, or year. The process begins with identifying and analyzing transactions, then recording them as journal entries, posting those entries to the general ledger, preparing an unadjusted trial balance, making adjusting entries, preparing an adjusted trial balance, generating financial statements, making closing entries, and preparing a post-closing trial balance. Each step builds on the previous one, creating a systematic process that transforms raw transaction data into meaningful financial statements. While this sounds like a lot of steps, modern accounting software like HelloBooks handles many of them automatically, compressing what used to be days of manual work into minutes of review and confirmation.
Recording and Posting Transactions
The cycle starts when a financial event occurs, such as making a sale, paying a bill, or receiving a payment. The first step is identifying whether the event is a recordable transaction. Not every event affects the financial statements. An inquiry from a customer is not a transaction, but a signed contract with a deposit is. Once identified, the transaction is recorded as a journal entry with appropriate debits and credits. The journal entries are then posted to the general ledger, updating the balances of each affected account. In practice, these first few steps happen simultaneously when you enter a transaction into your accounting software. The software creates the journal entry and posts to the ledger in one action.
Trial Balance and Adjustments
After all transactions for the period have been recorded, an unadjusted trial balance is prepared. This is a list of all general ledger accounts and their balances, used to verify that total debits equal total credits. If they do not balance, an error exists somewhere in the recording or posting process that must be found and corrected. Once the trial balance is confirmed, adjusting entries are made for items like depreciation, accrued expenses, prepaid expenses, and unearned revenue. After these adjustments are posted, an adjusted trial balance is prepared to confirm that the books still balance with the adjustments included. This adjusted trial balance provides the figures used to prepare the financial statements.
Financial Statements and Closing the Books
With the adjusted trial balance confirmed, the financial statements are prepared. The income statement shows revenue minus expenses for the period. The balance sheet shows assets, liabilities, and equity at the end of the period. The cash flow statement shows the movement of cash during the period. After the financial statements are generated, closing entries are made to zero out the balances of all temporary accounts, which include revenue, expense, and dividend accounts. Their balances are transferred to retained earnings. This resets the income and expense accounts to zero for the start of the next period. A final post-closing trial balance confirms that only permanent accounts have balances and that the books are ready for the new period. HelloBooks automates the closing process, allowing you to close a period with a few clicks.