Accounting Process- Meaning, Purpose, Steps
The accounting process is an eight-step cycle to examine financial activities throughout a reporting period. Read the complete blog to learn more!
Izhar Ahmad21 Nov, 2023
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The exact actions required to complete an accounting process are called the accounting cycle. An accounting cycle might last one of four lengths: monthly, quarterly, half-yearly, or annually. Organization to organization may have differences in it, but the procedure is always the same.
Accounting Process Meaning
The accounting process involves a sequence of actions undertaken by a business to document its financial transactions. These actions encompass gathering, recognizing, categorizing, summarizing, and recording the transactions in the company's financial records. This systematic approach allows for the preparation of the entity's financial statements, providing insights into the company's profits and financial status at regular intervals.Purpose of Accounting Process
- Capture and document all monetary activities related to the business, ensuring a comprehensive record of financial events.
- Clearly identify and distinguish between business-related transactions and those involving the owner, focusing on monetary aspects.
- Facilitate the creation of financial statements, including the statement of profit and loss, balance sheet, and cash flow statement, to provide insights into the business's financial position, profitability, and cash flow.
- Utilize tools like trial balances to identify discrepancies between debits and credits, enabling the detection and correction of errors in the accounting process.
- Implement policies for recording transactions based on either accrual or cash basis, reflecting the timing of revenue and expense recognition.
- Post individual accounts in the general ledger to track and manage each account's balance separately, facilitating a comprehensive understanding of financial movements.
- Make necessary adjustments, particularly for accrual-based accounting, to account for expenses incurred and income earned that may not have been initially recorded.
- Conclude the accounting cycle by transferring balances from temporary accounts to permanent accounts, ensuring a seamless transition from one fiscal period to the next.
- Provide regular and systematic insights into the business's financial health, allowing stakeholders to assess profitability, financial stability, and cash flow trends over time.
Step1 in Accounting Process– Transaction Identification
The first step in the accounting process involves recognizing financial transactions pertinent to the business. Only monetary transactions are recorded, distinguishing business-related transactions from those involving the owner.Step2 in Accounting Process– Journal Entry Recording
Following transaction identification, the second step entails creating a journal entry for each accounting transaction. The recording process depends on the accounting policy, whether it be accrual basis or cash basis. Accrual accounting logs revenues and expenses when incurred, irrespective of cash transactions, while cash accounting records transactions only upon actual cash receipt or payment. In a dual entry system, each transaction impacts at least two accounts through debiting and crediting.Step3 in Accounting Process– Ledger Posting
After recording transactions in the journal, individual accounts are posted in the general ledger. This step aids in tracking each account's balance separately, providing insights into increases and decreases during a specific period.Step4 in Accounting Process– Unadjusted Trial Balance
To ensure the equality of debits and credits, a trial balance is prepared. This step aims to identify errors in the accounting process. The trial balance reflects account balances at a given time, summarizing the financial status.Looking for the Best Commerce Coaching?
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Step5 in Accounting Process– Adjusting Journal Entries
For accrual-based accounting, adjustments are made at the end of the fiscal year. These entries include expenses incurred but not recorded and income earned but not yet documented.Step6 in Accounting Process– Adjusted Trial Balance
After incorporating adjusting entries, another trial balance is prepared before crafting financial statements. This ensures that debits and credits remain balanced post-adjustments.Step7 in Accounting Process– Financial Statement Preparation
Upon completing the preceding steps, financial statements are prepared to assess the actual financial, profitability, and cash flow positions. The statement of profit and loss reveals profitability, the balance sheet illustrates financial status, and the cash flow statement depicts changes in cash flows from operating, investing, and financing activities.Step8 in Accounting Process– Closing Entries
The accounting cycle concludes with closing entries, transferring balances from temporary accounts to permanent accounts. Temporary accounts, such as sales and expenses, are closed, ultimately transferring profit or loss to the retained earnings account. Permanent accounts, representing balance sheet items, remain unaffected. After closing entries, a trial balance is prepared again to confirm debit-credit equality, marking the initiation of a new accounting cycle with the start of a fresh fiscal year.| Read Related Topics | |||
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Accounting Process FAQs
What is full cycle accounting?
Full cycle accounting is the complete process of recording, classifying, summarizing, and analyzing financial transactions from their initiation to the preparation of financial statements.
What are the 4 accounting processes?
The four accounting processes are identification, recording, classifying, and summarizing financial transactions.
What is the 4 4 5 accounting method?
The 4-4-5 accounting method involves a fiscal year divided into four quarters, with the first and third quarters having four weeks each, and the second and fourth quarters having five weeks each.
What is step 4 of the accounting cycle?
Step 4 of the accounting cycle involves preparing the unadjusted trial balance to ensure that debits and credits are equal.
What are the three types of accounting?
The three types of accounting are financial accounting, management accounting, and tax accounting.
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