Accounting cycle is a process of recording all the financial transactions and processing them. When a complete sequence of recording and processing financial transactions is followed which happens frequently on a continuous basis during an accounting period is known as the accounting cycle. It thus begins with the occurrence of financial transactions, from when it occurs, its representation on the financial statements and closing the accounts of an entity.
Accounting cycle continues over different accounting periods as long as the entity continues its business. It is the responsibility of an accountant to keep checking the accounting cycle from beginning until it ends.
For a better understanding of an accounting cycle, it is important to have a good understanding of basic accounting principles and policies.
Also, an accountant shall have a good understanding of terms which are frequently in use in accounting.
For Example – Revenue recognition (when an entity can record sales revenue in the books of an entity), Matching concept (expenses should match the revenue) etc.
Steps involved in an accounting cycle are as given below
Recording of transactions
As soon as the transaction occurs it is the responsibility of an accountant to record such a transaction in subsidiary books. Accounting transaction should be recorded in the books according to the accounting policies, principles followed by such entity.
Next step in this accounting cycle is to record the financial transactions in the journal. We record financial transactions in Journal chronologically.
There can be one or more than one accounts debited and one or more accounts can be credited. An accountant shall check that both the debit and the credit balance match.
All the journal entries prepared in the earlier step are posted into respected ledgers chronologically. A ledger shows the summary of all the financial transactions related to such account. For example: – In cash ledger, we find a summary of all the cash transactions.
After completion of the posting of entries to ledgers, we need to prepare a trial balance. We prepare trial balance after considering all the ledger account closing balances.
We prepare it at the end of the accounting period for the preparation of financial statements. Accounting period may be monthly, quarterly or yearly based on the entity’s requirements.
Learn more about Classification of Accounting here in detail
We need to record the adjustment entries properly. We need to make these entries before the preparation of financial statements of an entity. At the end of the accounting period, adjusting entries must be posted to the ledgers.
Adjusted Trial Balance
After preparation of trial balance and making adjustment entries (if any), an adjusted trial balance may also be prepared. An accountant shall also check that the debit and credits on the trial balance match.
We shall make proper entries for the closure of nominal accounts. We shall close accounts by transferring the balances to Trading Account & Profit and Loss Account.
After following the above steps, we can prepare financial statements easily. Financial statements will show the true financial position and operating results of the entity’s business.
We can easily prepare financial statements like Balance sheet, Profit and loss account using the correct balances.
Solved Question for You
Write the accounting terms that are generally in use in the accounting cycle.
Ans: – Accounting terms generally in use in the accounting cycle are as follows: –
- Account Receivables
- Account payables
- Trade Discount
- Current Assets
- Current Liabilities
- Loans and advances, etc