Have you ever wondered why accountants are more busy at the end of the months? Well, please don’t expect a joke here. This month-end closing is a serious topic. Accountants perform a particular task at each month-end, which is referred to as ‘closing of books’.
This term has multiple names and may be referred to as ‘closing of books of accounts’ or ‘monthly closing’ or ‘yearly closing’ or ‘quarterly closing’ etc.
So what they do when they ‘close the books’? Does this mean that they close the books and stop working? If this was the case, then accountants should have been relaxed. But this is not the case. Closing of books means that you are ensuring that you have recorded all accounting transactions correctly, which should be recorded in that month or in that accounting period. Once you are sure that you have booked all the accounting entries, then you can close that accounting period or month and start the next accounting period.
Once an accounting period is closed, no further accounting entry can be passed (usually) in that month. Therefore, before closing the books of accounts, the accounting and finance team need to make sure that they have recorded all the transactions, and nothing is missed out. This monitoring includes ensuring that all prepayments, accruals, bank reconciliation entries, depreciation entries, system-generated entries have been correctly recorded.
Below are the usual items for which closing journal entries are passed at the time of closing of books of accounts:
- Prepayments made and charging out of prepayments to P&L for that period
- Accruals booking and ensuring the reversal of previous month’s accrual
- Monthly Depreciation and amortization charges
- Inter-branch reconciling items
- System generated accounting entries for balancing books of accounts
- Control account reconciliation accounting entries
- Bank reconciliation entries like interest payments and receipts
- Dividends, drawings, preference shares or any equity-related adjustments
- The material in transit or goods received near to the closing date
- Goods delivered or final sales made before closing
- Acquisition entries, investment entries and goodwill
- Impairment assessment and booking of tangible and intangible assets
- Deduction of monthly advances
- Monthly payroll entries
- Recording of various provisions including bonus provision (employees love bonus provision)
Closing books of accounts is usually a system driven setup. Once there is a confirmation to close the books of accounts, you can give the command in the accounting software to close the books of accounts. The accounting system will then lock that accounting period and a new accounting period will be opened.
Usually, all good companies close their monthly accounts as early at 5th of the following month. For example, the accounting books for the accounting month of January 1950 will be closed by 5 February 1950. Similarly, the accounting period for the month ended 28 February 1950 will be closed by 5 March 1950. (Please don’t be carried away by the year 1950, this is just given as an example, the article is not that much old).
Many companies prepare quarterly financial statements, and thus they close their quarterly accounts almost similar to their month-end closing deadline. Annual closing of books of accounts usually takes a more extended period than monthly or quarterly closing. This delay is because annual results are typically subject to a full-fledge audit, and these financial statements are presented to various stakeholders. Nevertheless, yearly closing would also be done maximum by 10th of the following month. For example, the closing of books of accounts for the year ended 31 December 1950 will be done maximum by 10 January 1951.
Once books are closed, any accounting entry shall be passed in the next accounting period only. Some companies may close their books of accounting for a month before the actual month-end closing date, e.g., some companies may close their books on 25th or 28th of the current month. This closing date is usually referred to as the cutoff date. This practice is used to ensure that financial reporting timelines to group and regulators are met on time. Early closing of books of accounts would provide sufficient time to the companies to complete the closing process and generate the financial results.
Closing of books of accounts is crucial from an owner’s or investor’s point of view. Because only after the closing of the books, a business will be able to determine how much profit it earned or what is the financial position and performance of the company. So, if you are an owner of a small business, please insist on monthly closing and monthly preparation of financial statements so that you are aware of the latest economic situation of the company.
The outcome of the closing of books of accounts is the final list of closing balances of all the accounts (also called trial balance). Once the trial balance is finalized, that is the final stage of the closing process. After the closing, the next step is the preparation of financial statements. Please read our article on the preparation of financial statements here.