How to Close the Income Summary Account

The Income Summary account is a temporary holding account used during the closing process at the end of an accounting period. Its function is to aggregate all revenue and expense balances to determine the net income or net loss for that period. This balance is then transferred to a permanent equity account, preparing the accounting records for the subsequent period. Closing this account is a standard accounting practice, ensuring financial reporting begins with a clean slate for new transactions.

Identifying Accounts for Closure

Before the Income Summary account can be closed, the balances of all temporary accounts must be transferred. These temporary accounts include all revenue accounts, all expense accounts, and any accounts related to owner distributions, such as dividends for corporations or owner’s draws for sole proprietorships and partnerships. Identifying these accounts involves reviewing the adjusted trial balance at the end of the accounting period.

This step gathers the figures from these temporary accounts for subsequent closing entries. These accounts are “zeroed out” at the end of each accounting period to ensure a fresh start for the new accounting cycle. This process prevents revenue and expense figures from accumulating indefinitely, which would obscure the financial performance of distinct periods.

Journal Entries for Closing Revenues and Expenses

The closing process begins by transferring the balances of revenue accounts into the Income Summary account. Each revenue account, which typically holds a credit balance, is debited to reduce its balance to zero. The Income Summary account is credited for the total of all revenue accounts, reflecting the cumulative earnings for the period. For example, if a business has Sales Revenue of $10,000 and Service Revenue of $5,000, the entry would debit Sales Revenue $10,000, debit Service Revenue $5,000, and credit Income Summary $15,000.

After closing revenue accounts, the balances of all expense accounts are transferred to the Income Summary account. Each expense account, which normally carries a debit balance, is credited to bring its balance to zero. The Income Summary account is debited for the total of all expense accounts, reflecting the period’s total costs. For instance, if Rent Expense is $2,000 and Utilities Expense is $500, the entry would debit Income Summary $2,500, credit Rent Expense $2,000, and credit Utilities Expense $500. These two entries prepare the Income Summary account to reflect the net profitability before its final closure.

Journal Entry for Closing Income Summary

Once all revenue and expense accounts have been closed into the Income Summary account, this temporary account will hold a balance representing either the net income or net loss for the period. If total revenues exceeded total expenses, the Income Summary account will have a credit balance, indicating net income. Conversely, if total expenses surpassed total revenues, it will have a debit balance, signaling a net loss. This balance is then transferred to a permanent equity account.

For corporations, the balance in the Income Summary account is typically transferred to Retained Earnings. If there is net income, the Income Summary account is debited to bring its balance to zero, and the Retained Earnings account is credited. For example, if the Income Summary has a $12,500 credit balance (net income), the entry would be a debit to Income Summary for $12,500 and a credit to Retained Earnings for $12,500.

If a net loss occurred, meaning the Income Summary account has a debit balance, the process is reversed. In this scenario, the Retained Earnings account is debited, and the Income Summary account is credited to reduce its balance to zero. For a $1,000 net loss, the entry would be a debit to Retained Earnings for $1,000 and a credit to Income Summary for $1,000. For sole proprietorships or partnerships, the balance would be transferred to an Owner’s Capital account instead of Retained Earnings.

Post-Closing Trial Balance and Account Status

After all closing entries have been posted, preparing a post-closing trial balance is the final step in the accounting cycle. This trial balance verifies that all temporary accounts—revenues, expenses, owner’s draws or dividends, and the Income Summary account—now carry zero balances. This ensures they are reset for recording transactions in the subsequent accounting period.

Only permanent accounts appear on the post-closing trial balance. These include assets, liabilities, and equity accounts, such as Retained Earnings for corporations or Owner’s Capital for other business structures. The balances of these permanent accounts are carried forward to the new accounting period. This final verification confirms the accuracy of all closing entries and prepares the accounting system for upcoming financial activities.