Being accounting professionals, we need to be on top of things when it comes to the period-end closure of the books of accounts. But it is easier said than done as depending on the size and complexity of an entity, the period-end closure of books can come with its own set of challenges or difficulties.
However, having a well-documented stepwise procedure in place can simplify the period-end closure to a considerable extent. This procedure will obviously vary from company to company but we have made a small attempt here to jot down some generic points which can be helpful in the periodic closure of books.
Why Close the books?
Regularly closing your books will prevent unwanted changes from occurring to your accounting data after you generate important financial reports for your auditor or tax professional. In accounting, it is important to ensure the revenue & expenses are recorded in the correct period, and closing books is a way to ensure no entries would be mistakenly recorded in incorrect periods so that the statements accurately reflect the actual income and expenses of each period.
Frequency of books closure
The frequency of the books closure procedure would again vary based on the size and complexity of the entity. In case of listed entities, these activities are carried out on a Monthly or at least quarterly basis. However, for small & medium-sized clients, it might be appropriate to carry out this exercise on an annual basis. It is a matter of professional judgment and management may decide upon a suitable frequency based on its business requirements.
Following are some steps to be followed for the period-end closure of Books of accounts :
1. Collate all financial information:
First & foremost, one must gather all the relevant financial data or records necessary for the closure of the books. This may include various records such as bank details, Petty cash fund register, revenue & expense records, fixed assets register, inventory register etc. Only once do we ensure the completeness of such records, we can move on to the other steps for books closure.
2. Ensure the completeness & accuracy of cash & bank records:
In most of the businesses (specially the retail businesses), cash & bank balances are one of the most important sections of the balance sheet. It is a very vital indicator of the liquidity of a company. Also due to its inherent nature, this line item is one of the most fraud prone areas of the financial (specially the petty cash balances). To ensure its completeness & accuracy, one must compare the records of one’s books with the bank statements, credit card statements & cash registers. One must look that outstanding items are appropriately provided for and are recorded in the later period as & when they are actually received or paid.
3. Update Accounts payable:
Chances are, you probably don’t have time to record transactions every day. If this is the case, make sure you write down your purchases and organize receipts. That way, you can keep your accounts payable in appropriate shape for your monthly close. After tracking your transactions, record them in your books at the end of each week or month. During your periodic closure, cross-check your records to make sure you have accurately recorded all the movements in accounts payable like expenses, payments, discounts, write offs etc.
4. Update Accounts receivable:
Make sure that the sales balance per your books of accounts matches with the balance per your sales register at the end of each reporting period. Ensure that there is an appropriate cut off procedure in place so that the invoices are recorded in the correct period. Reconcile the AR sub ledger with the AR balance as on the face of trial balance to verify that all the movements like sales, receipts, discounts given, bad debts (if any) etc. are appropriately recorded.
5. Reconcile the fixed assets register with the actual physical custody :
Your fixed assets are long-term items that add value to your business. Things like buildings, equipment, furniture, vehicles, and land are considered fixed assets. Your fixed assets usually do not convert directly into cash. And because fixed assets are generally larger purchases, they are depreciated in value over time. When closing your books at the end of the reporting period, record any payments or receipts related to your fixed assets like purchases or sales. Also ensure that appropriate depreciation is calculated and charged to the fixed assets as per the applicable laws (for eg: the companies act, 2013).
6. Reconcile Inventory balances (Physical stock with records):
If you want to make sure your inventory is correct, you need to perform monthly (or periodic) inventory counts. Counting your inventory monthly allows you to accurately record inventory levels in your books at month-end. Plus, doing a monthly inventory count can help you decide what items you need to replenish and how frequently.
You might need to monitor some types of inventories more than others (inventories of higher values). If you don’t accurately track your inventory, you could experience problems like inventory shrinkage. Often the inventories are prone to theft and in some cases, they are prone to spoilage as well (for eg: dairy products). Use your inventory count to make adjustments and reconcile your books when you complete your period-end procedures.
7. Pass the relevant Adjustment journal entries (AJEs):
It is a very important step towards closure of the books. AJEs are required to provide for prepaid or outstanding expenses, deferred revenue, bad debts, provisions etc. It is very important to ensure that the AJEs passed are genuine and accurate as in many companies AJEs are used as a means to window-dress the books of accounts.
8. Generate, organize and review financial statements:
The final step in the period-end closure procedures is to generate the financial based on the Adjusted trial balance. Once generated, financial must be organized and reviewed before submission to the top-level management for analysis. The financial statements mainly include:
a) A balance sheet (statement of affairs)
b) A profit & loss account (Income statement)
c) A statement of cash flows
You can also use your financial statements as an opportunity to improve your business. For example, when you review your statements, you might notice that you’ve been spending a lot of money on a product that’s not selling. You might decide to use cheaper materials to produce the product. Or, you might decide to switch up the product altogether. Reviewing statements can help you catch issues early on, like overspending, and prevent problems later on with your books.
It can provide valuable insights to your business’s financial information and what areas you need to improve in. Closing your books periodically can also help you make decisions about your business’s finances, prevent costly mistakes, and prepare you for tax time.