Closing Transfers (Grade 10 NSC Matric Accounting): Revision Notes

Closing transfers

Introduction

After completing the trial balance, you need to take the final step in the accounting cycle: preparing the financial statements. These statements show how well the business performed during the year and what it owns and owes at year-end.

Financial statements consist of two main reports:

• Income statement – shows the profit or loss for the year
• Balance sheet – shows what the business owns (assets) and owes (liabilities) on a specific date

These statements are prepared for a specific time period called a financial period, which is a pre-determined 12-month period used for accounting purposes (such as 1 January to 31 December).

Why we need closing transfers

Think of income and expense accounts as temporary "working accounts" that you use throughout the year to track the business's activities. At the end of the financial year, these accounts need to be closed off (brought to a zero balance) so you can start fresh in the new year. This process is called closing transfers.

Temporary accounts are accounts that only relate to one financial period. These include:

• Income accounts (like sales, rent income, commission received)
• Expense accounts (like rent expense, salaries, telephone)
• The trading account (used to calculate gross profit)
• The profit and loss account (used to calculate net profit)

In contrast, permanent accounts (assets, liabilities, and capital) continue from one year to the next and don't get closed off.

The closing transfer process

Closing transfers follow a logical sequence, moving from calculating gross profit, to net profit, and finally transferring the profit to the owner's capital. Here's the step-by-step process:

Step 1: Transfer debtors' allowances to sales

The debtors' allowances account tracks discounts given to customers for early payment. This reduces your total sales, so you need to transfer it to the sales account to calculate net sales.

$\text{Net sales} = \text{Total sales} - \text{Debtors' allowances}$

Step 2: Transfer sales and cost of sales to trading account

The trading account is used to calculate gross profit. You transfer both:

• Sales (credit side) – this is your revenue from selling goods
• Cost of sales (debit side) – this is what you paid for the goods you sold

Step 3: Calculate gross profit and transfer to profit and loss

Once the trading account is balanced, the difference between sales and cost of sales gives you the gross profit. This profit is then transferred to the profit and loss account.

$\text{Gross profit} = \text{Net sales} - \text{Cost of sales}$

Step 4: Transfer all income and expense accounts to profit and loss

The profit and loss account brings together all your income and expenses to calculate net profit. Transfer:

• All other income accounts (credit side) – like rent income, commission received
• All expense accounts (debit side) – like salaries, rent expense, telephone

Step 5: Calculate net profit

Balance the profit and loss account. The difference between total income (including gross profit) and total expenses gives you the net profit for the year.

$\text{Net profit} = \text{Gross profit} + \text{Other income} - \text{Expenses}$

Step 6: Transfer net profit to capital

The net profit belongs to the owner, so it's added to the capital account. This increases the owner's investment in the business.

Step 7: Close off drawings to capital

Drawings represent money or goods the owner took out of the business for personal use during the year. This reduces the owner's capital, so you transfer drawings to the capital account (debit side).

Step 8: Balance the capital account

After transferring net profit and drawings, calculate the closing balance of capital. This shows the owner's total investment in the business at year-end.

$\text{Closing capital} = \text{Opening capital} + \text{Net profit} - \text{Drawings}$

Step 9: Prepare a post-closing trial balance

The post-closing trial balance only includes permanent accounts (assets, liabilities, and capital). All temporary accounts should have zero balances. This trial balance becomes the opening balance for the new financial year.

Worked example

Exam tips

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