Accountant Christmas trees performing a year end reconciliation

Year End Reconciliation: Close Out For The Holidays

Tis’ the season for a year end reconciliation. Let’s balance your books and zero out accounts, to get a clear picture of your annual income. Your efforts will be rewarded with a seamless tax season.

In this article:

  • What is an end of year reconciliation?
  • 9 step year end reconciliation procedure

What Is An End Of Year Reconciliation?

Each year a business should perform an end of year reconciliation to close the books. It is locking up the entire year so that no additional items get reported as income. The process is similar to a monthly close, but there are a few key differences in how you treat certain accounts. Your main goals for this accounting project are to: 

  • Reconcile your account balances
  • Determine income for the year 
  • Ready your books to start a new year 
  • Prepare for tax season

If you aren’t utilizing a month end closing procedure, each month, then you are in for an arduous year end reconciliation. Having to sift through transactions from months past increases the likelihood of errors during data entry. Relying on your memory to keep track of operational details like discounts, taxes, charges, etc, means things will be missed. Inevitably, this costs you time and possibly penalties from misstating your income on taxes.

Tax Preparation With A Year End Reconciliation

Your financial statements are your year end reconciliation deliverable. These financial statements make taxes easier in the new year because a summary of your revenue and expenses is what you report to the IRS. Based on your end of year financial statements you can: 

What Is A General Ledger?

All the action of a yearly closeout happens in the general ledger. A general ledger serves as a working financial history of your business. It is a log of every transaction and describes what is coming or going from your accounts. Your general ledger is fed by sub-ledgers that manage a high volume of transactions linked to certain accounts ie accounts receivable.

General Ledger Layout Example

For the end of year reconciliation you balance all your sub-ledgers, then your general ledger. These calculations are done on a year-end reconciliation worksheet, where you produce a trial balance of actual earnings to match what you have reported in your accounting system. Your accounting should always be an accurate reflection of revenue and expenses, thus reconciling the general ledger verifies your method.

9 Step Year End Reconciliation Procedure

We made this year end reconciliation procedure for all businesses. It works whether you are using the cash or accrual accounting method. Note: if you are using the cash accounting method, depreciation in step 5 and step 6 may not apply.

Follow these 9 steps to the year end reconciliation:

1. Collect Outstanding Payments, Pay Vendor Bills, and Pay Staff

You need to send out all invoices and pay your bills for the year. Ideally, you want payments and expenses reported on your bank and credit card statements. It is okay if you have a few items in transit while performing the close, but everything should be posted by or near the end of the calendar year. Additionally, get estimates of how much your customers will owe you in the coming year, and outstanding expenses you haven’t been billed for.

The same process applies to payroll. You’ll need to pay your contractors and employees their final paychecks for the year, including all benefits disbursements. Plus make time to tidy up employee records in HR. When you go to do your taxes, employees must be classified correctly, otherwise, you will face hefty fines.

2. Document Collection

Collect all financial documents for the year to reconcile. From the current period, gather receipts, invoices, bank and credit card statements, employee expense reports, stock options expense reports, loan summaries, etc. From any previously closed periods, get financial statements on standby because your account balances on those statements will be used on the year end reconciliation worksheet.

3. Enter Your Transactions

In this step, you enter invoices, bills, and receipts, into your accounting software via manual entry or data imports. Only enter items that are not already in your books, and make sure you maintain compliance with revenue recognition rules. In other words, is there proof that you made a sale, or spent money? 

If you have entered everything you aren’t off the hook yet. We like to set aside time to double-check that transactions are accurately itemized. It is a tedious step but it pays off later in the workflow if everything is correct. Always keep a skeptical mind and understand human error happens in accounting.

An Accountant Christmas tree going through the 4 quarterly seasons

4. Perform Bank Reconciliations

All transactions need to be reconciled to your bank statement. It serves as a verification measure that the transactions in your accounting system match activity in your bank accounts. It also serves as a way to see any outstanding invoices that will need to be pushed to next year. You can do bank reconciliations at the same time as transaction entry.

5. Calculating New Fixed Assets And Depreciation Schedules

Add any new fixed assets purchased within the year, to your business capital. Fixed assets are items you own that you cannot convert into cash easily. You need to set up depreciation schedules for all fixed assets since you can only claim a percentage of their costs on your taxes each year. A depreciation schedule provides a lifetime roadmap of the asset’s annual expense to your business.

6. Make Accrual Adjustments For Next Year

In an accrual system, there will be items to accrue for the following year. If you don’t make adjustment entries your income won’t be accurate, so you need to tackle your prepayments and accrued expenses. We recommend an accountant for this step because it requires a good knowledge of accounting.

Here are the major accrual adjustments you’ll need to make during the end of year reconciliation: 

  • Accrued revenue for the new year
  • Doubtful debt from accounts receivable to write off as a bad debt expense
  • Deferred revenue schedules
  • Any unpaid wages and commissions
  • Outstanding vendor estimates that you don’t have a bill for
  • Loan interest payments
  • Fixed and intangible depreciation  
  • Cost of equity for stock options and dividend disbursements

7. Reconcile Your Accounts

Once all yearly transactions are accounted for, you are ready to reconcile accounts. Reconciling your accounts will happen on a year end reconciliation worksheet—a glorified scratch sheet. On a year-end reconciliation worksheet, you have two columns: one that displays totals from the sub-ledgers in your general ledger; another that displays a calculated trial balance based on your bank statement. The idea is that your ledger account balances match the trial balances.

Trial balances are calculated with the account reconciliation formula. When the sum of your trial account balance matches the sum in your accounting system, the account is reconciled. You will need to use the account reconciliation formula to calculate trial balances for all your accounts on the general ledger. 

Account Reconciliation Formula

Trial Account Balance = Bank Statement Balance + Deposits in Transit – Outstanding Payments

A benefit to closing accounts in a monthly close is that you already have your “bank statement balance” figured for each account. The closing balance from the previous period is your opening balance for the next period and the number you input into the account reconciliation formula. If this is your yearly close-out, you input opening balances from the beginning of the year.

For Example: A company has an opening sales account balance of $20,000 on their balance sheet from the previous period; $5,000 deposits in transit; $2,000 in outstanding invoices.

Trial Sales Account Balance = $20,000 + $5,000 – $2,000 = $23,000

8. Reconcile Your General Ledger

Once you reconcile each account, you total the accounts to balance your general ledger. This is the trial balance of your general ledger and it represents a working total of your income. It should match the income you have received for the year. 

When a trial balance does not match, dive into your sub-ledgers to find the error. It is probably a transaction that was posted to the wrong account or a duplicate entry. We recommend having a professional review your working balance for the general ledger before stating it as income on financial statements. 

9. Make Year End Closing Entries

Closing entries are what set the year end reconciliation procedure and monthly closeout apart. Since you are adding up your entire income for the year, your income has to be reported as equity on the balance sheet. To do this, you make closing entries for the temporary accounts on your income statement—income, revenue, expenses, etc.

How do I perform closing entries?

Well, you need an income summary account set up in your accounting system. You transfer the sum of your temporary balances into your income summary, this is equal to your net income/loss for the year. Then, make adjustment entries according to how you itemize income in your equity accounts. Income can be transferred to the owner’s equity or retained earnings accounts, and/or paid out as dividends.

An Accountant Christmas tree performing year end closing entries

Do A Year End Rec Sooner Rather Than Later

As the year comes to a close, take the time to perform a year end rec. Whether you follow a standard calendar year (January-December) or one that runs along a different track, it is important to finalize the procedure early. There are too many details to consider when reporting income on your taxes, so you should be closing out each month to avoid unnecessary fines. If you need help catching up on your bookkeeping and monthly close-outs, we’ll get you up to speed to meet any deadline.

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