Module 4: Accounting Principles and Definitions 4.2.1 Steps in the accounting cycle
The proper order of the accounting cycle ensures that the financial statements your company produces are consistent, accurate, and conform to official accounting standards (such as IFRS and GAAP).
Step 1: Identify transactions A transaction can be described as an action by the business that has monetary value. A transaction can happen internally within the business as well as externally with other parties.
Step 2: Record transactions All similar source documents are sorted and bundled together. Each type of source document is used to record/journalise the transaction in the journal (book of first entry) concerned. Journals are normally completed daily.
Step 3: Post to the General Ledger
At the end of the month the journals are totaled and closed off, and then posted to the ledger accounts concerned. All the General Ledger accounts are then balanced or totaled.
Thanks to the magic of the internet and automation, the General Ledger now lives in the background of the accounting cycle. It’s transitioned from a physical book to a part of the cloud, and accountants don’t really have to touch it.
Step 4: Create Pre-adjustment Trial Balance The first three steps of the accounting cycle can (and should) take place throughout the accounting period. Creating the Pre-adjustment Trial Balance is the first step that can only take place once the period has ended and all transactions have been identified, recorded, and posted to the General Ledger. Creating an Pre-adjustment Trial Balance is similar to checking your homework. Because every transaction is recorded as a debit and a credit, the goal of this step is to ensure that your total debit balance and total credit balance are equal. If not, something was missed or misclassified. Invoices that you expected to be paid (but weren’t) can throw it off. Payments that you expected your vendors to collect (but didn’t) can also cause issues. Whatever the case, a Pre-adjustment Trial Balance simply shows you all your debits and credits in a table. And if they don’t add up to the same amount, you can use this table to begin investigating why.
Step 5: Make adjustment entries This step simply resolves any anomalies that are found. First, you identify what is causing the debits and credits to be misaligned. Then you make journal entries to fix them.
Step 6: Create Post-adjustment Trial Balance Time to double check your work one last time with the help of an Post-adjustment Trial Balance. This table shows your Pre-adjustment Trial Balance, your adjusting entries, and your adjusted amounts. It’s the final step before creating financial statements, so it’s worth triple checking everything.
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