8 steps in the accounting cycle
What is the Accounting Cycle?
The accounting cycle is the holistic process of recording and processing all financial transactions of a company, from when the transaction occurs, to its representation on the financial statements, to closing the accounts. One of the main duties of a bookkeeper is to keep track of the full accounting cycle from start to finish. The cycle repeats itself every fiscal year as long as a company remains in business.
The accounting cycle incorporates all the accounts, journal entries, T accounts, debits, and credits, adjusting entries over a full cycle.
Steps in the Accounting Cycle
#1 Transactions
Transactions: Financial transactions start the process. If there were no financial transactions, there would be nothing to keep track of. Transactions may include a debt payoff, any purchases or acquisition of assets, sales revenue, or any expenses incurred.
#2 Journal Entries
Journal Entries: With the transactions set in place, the next step is to record these entries in the company’s journal in chronological order. In debiting one or more accounts and crediting one or more accounts, the debits and credits must always balance.
#3 Posting to the General Ledger [GL]
Posting to the GL: The journal entries are then posted to the general ledger where a summary of all transactions to individual accounts can be seen.
#4 Trial Balance
Trial Balance: At the end of the accounting period [which may be quarterly, monthly, or yearly, depending on the company], a total balance is calculated for the accounts.
#5 Worksheet
Worksheet: When the debits and credits on the trial balance don’t match, the bookkeeper must look for errors and make corrective adjustments that are tracked on a worksheet.
#6 Adjusting Entries
Adjusting Entries: At the end of the company’s accounting period, adjusting entries must be posted to accounts for accruals and deferrals.
#7 Financial Statements
Financial Statements: The balance sheet, income statement, and cash flow statement can be prepared using the correct balances.
#8 Closing
Closing: The revenue and expense accounts are closed and zeroed out for the next accounting cycle. This is because revenue and expense accounts are income statement accounts, which show performance for a specific period. Balance sheet accounts are not closed because they show the company’s financial position at a certain point in time.
General Ledger
The general ledger serves as the eyes and ears of bookkeepers and accountants and shows all financial transactions within a business. Essentially, it is a huge compilation of all transactions recorded on a specific document or in accounting software.
For example, if you want to see the changes in cash levels over the course of the business and all their relevant transactions, you would look at the general ledger, which shows all the debits and credits of cash.
Accounting Cycle Fundamentals
To fully understand the accounting cycle, it’s important to have a solid understanding of the basic accounting principles. You need to know about revenue recognition [when a company can record sales revenue], the matching principle [matching expenses to revenues], and the accrual principle.
The fundamental concepts above will enable you to construct an income statement, balance sheet, and cash flow statement, which are the most important steps in the accounting cycle. To learn more, check out CFI’s free Accounting Fundamentals Course.
Additional Resources
Thank you for reading CFI’s guide on the Accounting Cycle. To keep learning and advancing your career, the following resources will be helpful:
- Financial Accounting Theory
- Analysis of Financial Statements
- Revenue Recognition Principle
- Accounting Careers
- See all accounting resources
The transaction cycles are sets or transactions in business which are interconnected to each other. When the accountants in an accounting firm Johor Bahru are doing accounting tasks, they will aggregate most of the business transactions into a few transaction cycles, which are the financing cycle, payroll cycle, expenditure cycle and revenue cycle according to their nature. Below are the details of these cycles:
Financing cycle
In this cycle, the company will issue debt instrument to its lenders. Then, they will pay for the debt and the associated interest. Besides, it may choose to issue equity shares to the investors and pay dividend to them periodically when the company made profits. The transactions in this cycle can be more diverse when compared to other cycles, and the sum of money involved in it is a lot larger [Also see How Can Startups Raise Their Capital?].
Payroll cycle
The company will record the employee’s working hours, confirm the overtime they have worked, calculate gross salary, minus the amount with unpaid leave, if any. After completing these steps, the company will make the payroll payment and issue the pay slips so the employees receive the calculation breakdown.
Expenditure cycle
Some people would call the expenditure cycle as the purchasing cycle. When the company wants to order some goods from its supplier, it will issue a purchase order. After receiving the goods, the accountant will record an accounts payable using double entry accounting and eventually pay the supplier before the due date. In this cycle, there are some ancillary events, for example, the company may choose to use petty cash if the amount associated with the purchase is small.
Revenue cycle
The other name for the revenue cycle is the sales cycle. When a client orders goods from a company, the company will examine the creditworthiness of that order [Also see An Overview of Receivable Turnover]. Then, it will send the goods or provide the services to the client before issuing an invoice and collecting the payment from the client.
The accountants play a crucial role in designing a suitable forms, procedures and controls for every transaction cycle mentioned above. This is for the company to minimise the chances of occurance of fraud [Also see How to Ensure an Efficient Internal Audit?] and to make sure that the company has processed all transactions in a consistent and reliable way.