The income summary account balance is then transferred to retained earnings or the capital account in the case of a sole proprietorship. The income summary account is recorded by debiting revenue accounts and crediting expense accounts. The income summary account is defined as the account of temporary or provisional in nature wherein the statement at the end of the accounting period net off all the closing entries of expenses and revenue accounts. If the final netted balance displays a credit, then the business has made a profit for that accounting year, and if the final netted balance is debit, then the business has made a loss corresponding to that accounting year. The income summary is an intermediate account to which the balances of the revenue and expenses are transferred at the end of the accounting cycle through the closing entries. This way each temporary account can be reset and start with a zero balance in the next accounting period.
It is used when a company chooses to transfer the balance of individual revenue and expense accounts directly to retained earnings. The income summary account is also used when a company chooses to close the books using an income statement. Continuing with Bob’s Donut Shoppe example, we see how the income statement to used to close out the temporary accounts of revenue and expenses and how the balances for these are shifted to the retained earnings account. The income summary account is an account that receives all the temporary accounts of a business upon closing them at the end of every accounting period. This means that the value of each account in the income statement is debited from the temporary accounts and then credited as one value to the income summary account.
How to Close an Account into Income Summary Account
The retained earnings account is reduced by the amount paid out in dividends through a debit, and the dividends expense is credited. The purpose of the closing entry is to reset the temporary account balances to zero on the general ledger, the record-keeping system for a company’s financial data. The business has earned interest income of $8,000, revenues of $90,000, and miscellaneous income of $7,400. The business incurred a purchase expense of $50,000, rent expense of $9,000, stationary of $900, ad expense of $1,000, the expense of utilities at $800 with salaries as $40,000. The Income Summary is very temporary since it has a zero balance throughout the year until the year-end closing entries are made.
The income summary is a summarization and compilation of temporary accounts of the revenues and expenses. The information from the income statement can be transferred to the income summary statement to establish whether a business made a profit or loss. Whenever such a thing happens, the accounts in the income statement are debited, and accounts in the income summary are credited. The account for expenses would always have debit balances at the closing of the accounting period. The account for the expenses would be closed by making the debit towards the income summary, and there would be a credit to the account for expenses. Once all the entries are passed, all the values in the expenses account would amount to zero.
Closing the Income Summary Account
The revenue accounts would be closed by giving the credit summary on to the income summary. A debit would be done to the revenue account, and the credit would be done to the income summary account. Once all the entries are passed, all the values in the revenue account would amount to zero. The income summary account is an intermediate point at which revenue and expense totals are accumulated before the resulting profit or loss passes through to the retained earnings account. However, it can provide a useful audit trail, showing how these aggregate amounts were passed through to retained earnings. Conversely, if the resulting balance in the income summary account is a loss (which is a debit balance), then credit the income summary account for the amount of the loss and debit the retained earnings account to shift the loss into retained earnings.
- Once all the entries are passed, all the values in the revenue account would amount to zero.
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- The income summary account is an intermediate account that is used to close the books.
- This final income summary balance is then transferred to the retained earnings (for corporations) or capital accounts (for partnerships) at the end of the period after the income statement is prepared.
Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. We strive to empower readers with the most factual and reliable climate finance information possible to help them make informed decisions. Our goal is to deliver the most understandable and comprehensive explanations of climate and finance topics. We follow ethical journalism practices, which includes presenting unbiased information and citing reliable, attributed resources.
At the end of each accounting period, all of the temporary accounts are closed. You might have heard people call this “closing the books.” Temporary accounts like income and expenses accounts keep track of transactions for a specific period and get closed or reset at the end of the period. This way each accounting period starts with a zero balance in all the temporary accounts. There are three broad steps that are involved in using and preparation of income summary account. As the first step, the revenue accounts have to be closed, wherein such balances would reflect credit balance at the end of the financial period.
Example of the Income Summary Account
It helps in maintaining the overall audit trail of revenues earned by the business and the expenses incurred by the business. The business and auditors can always go back to such statements to determine and investigate any amounts they think are doubtful or just want to cross verify for investigation purposes. The income summary account is prepared by debiting revenue accounts and crediting expense accounts. The balances of the transferred amounts should match with the net income or loss for the year.
If you are using accounting software, the transfer of account balances to the income summary account is handled automatically whenever you elect to close the accounting period. It is entirely possible that there will not even be a visible income summary account in the computer records. It is also possible that no income summary account will appear in the chart of accounts. Temporary account balances can either be shifted directly to the retained earnings account or to an intermediate account known as the income summary account beforehand. As part of the closing entry process, the net income (NI) is moved into retained earnings on the balance sheet. The assumption is that all income from the company in one year is held onto for future use.
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Any account listed on the balance sheet, barring paid dividends, is a permanent account. On the balance sheet, $75 of cash held today is still valued at $75 next year, even if it is not spent. My Accounting Course is a world-class educational resource developed by experts to simplify accounting, finance, & investment analysis topics, so students and professionals can learn and propel their careers. An investment and research professional, Jay Way started writing financial articles for Web content providers in 2007.
Income Summary vs Income Statement
At the end of a period, all the income and expense accounts transfer their balances to the income summary account. The income summary account holds these balances until final closing entries are made. Then the income summary account is zeroed out and transfers its balance to the retained earnings (for corporations) or capital accounts (for partnerships). This transfers the income or loss from an income statement account to a balance sheet account. A closing entry is a journal entry made at the end of accounting periods that involves shifting data from temporary accounts on the income statement to permanent accounts on the balance sheet. Temporary accounts include revenue, expenses, and dividends, and these accounts must be closed at the end of the accounting year.
The Income Summary will be closed with a debit for that amount and a credit to Retained Earnings or the owner’s capital account. After the accounts are closed, the income summary is then transferred to the capital account of the owner and then closed. If the Income Summary has a debit balance, the amount is the company’s net loss. The Income Summary will be closed with a credit for that amount and a debit to Retained Earnings or the owner’s capital account. The following points are important to highlight related to the above income summary account for Bob and his company, Bob’s Donut Shoppe, Inc.
This is the second step to take in using the income summary account, after which the account should have a zero balance. Likewise, shifting expenses out of the income statement requires one to credit all of the expense accounts for the total amount of expenses recorded in the period, and debit the income summary account. Income summary effectively collects NI for the period and distributes the amount to be retained into retained earnings. Balances from temporary accounts are shifted to the income summary account first to leave an audit trail for accountants to follow.
What Happens When a Business Revenue Account Is Closed?
If a company’s revenues are greater than its expenses, the closing entry entails debiting income summary and crediting retained earnings. In the event of a loss for the period, the income summary account needs to be credited and retained earnings reduced through a debit. After all temporary accounts have been transferred to the income summary account, the balance in each temporary account will be closed and transferred to the capital account for a sole proprietorship or to “retained earnings” for a corporation. The post-closing trial balance report lists down all the individual accounts after accounting for the closing entries. At this point in the accounting cycle, all the temporary accounts have been closed and zeroed out to permanent accounts. Therefore, a post-closing trial balance will include a list of all permanent accounts that still have balances.
Next, the balance resulting from the closing entries will be moved to Retained Earnings (if a corporation) or the owner’s capital account (if a sole proprietorship). Income summary is a holding account used to aggregate all income accounts except for dividend expenses. Income summary is not reported on any financial statements because it is only used during the closing process, and at the end of the closing process the account balance is zero. Next, if the Income Summary has a credit balance, the amount is the company’s net income.
The last closing entry reduces the amount retained by the amount paid out to investors. Permanent accounts, on the other hand, track activities that extend beyond the current accounting period. They are housed on the balance sheet, a section of the financial statements that gives investors an indication of a company’s value, including its assets and liabilities. Temporary accounts are used to record accounting activity during a specific period. All revenue and expense accounts must end with a zero balance because they are reported in defined periods and are not carried over into the future. For example, $100 in revenue this year does not count as $100 of revenue for next year, even if the company retained the funds for use in the next 12 months.
In the final netted value column, whether a debit or credit, the amounts would then be transferred to the capital account of the business, and the parallelly, the income summary would be closed out or terminated. The income summary account is a temporary account into which all income statement revenue and expense accounts are transferred at the end of an accounting period. The net amount transferred into the income summary account equals the net profit or net loss that the business incurred during the period. Thus, shifting revenue out of the income statement means debiting the revenue account for the total amount of revenue recorded in the period, and crediting the income summary account.
The business is said to make profits if the credit portion of the income summary statement is more than the debit side of the income summary statement. Similarly, the business is said to make losses if the debit portion of the income summary statement is more than the credit side of the income summary statement. All temporary accounts of revenue and expenses have to be first transferred into the temporary statement of income and summary account. The balances in each of the temporary accounts would then be closed out in either capital account as applied for sole proprietorship business and retained earnings as applied for the corporation. The professionals should not be confused with the income statement, and income summary account as both of the concepts rely on the reports of income and losses earned and incurred by the business. The income statement generally comprises permanent accounts and displays the business’s income earned and expenses incurred by the business.
