The accounting cycle, step by step

What the accounting cycle is

The accounting cycle is the repeating sequence of steps that turns individual business transactions into financial statements and then resets the books for the next period: identify transactions, journalise, post to the ledger, prepare trial balances, adjust, report, close and, optionally, reverse. It matters because skipping or reordering a step is how most period-end errors reach the published accounts.

The cycle repeats every accounting period. Most businesses run a light version monthly for management reports and the full version, including closing entries, once a year. Software merges several steps, but the logic is unchanged, and anyone who understands the manual cycle can see where a system's figures come from and where they can go wrong.

The ten steps at a glance

Textbooks number the steps differently, some folding the trial balances into other steps or adding an optional worksheet, but the substance is the same. Steps 1 to 3 happen continuously during the period; steps 4 to 10 happen at or after the period end. A worksheet, a spreadsheet laying the unadjusted trial balance, adjustments and adjusted balances side by side, is an optional aid for steps 5 and 6 rather than a separate step.

• 1. Identify and analyse transactions from source documents.
• 2. Record each transaction as a journal entry.
• 3. Post journal entries to the ledger accounts.
• 4. Prepare an unadjusted trial balance.
• 5. Record adjusting entries; 6. prepare an adjusted trial balance.
• 7. Prepare the financial statements.
• 8. Record closing entries; 9. prepare a post-closing trial balance.
• 10. Record reversing entries at the start of the next period (optional).

Step 1: source documents and transaction analysis

Every entry starts with evidence. A source document proves that a transaction happened, when, with whom and for how much. Without one there is nothing for an auditor to test, and no defence if a tax authority asks. The analysis question is always the same: does this event change the business's assets, liabilities or equity in a way that can be measured? Signing a contract to buy goods next month does not; receiving the goods does.

Documents also fix the date. A delivery note dated 30 December and an invoice dated 3 January point to different periods, and deciding which date governs is the root of cut-off, one of the most tested areas in any audit. Our guide on preparing for an external audit shows what auditors ask for.

• Sales invoices and credit notes issued to customers.
• Supplier invoices, credit notes and goods received notes.
• Bank statements, card settlement reports and payment confirmations.
• Payroll registers and timesheets.
• Contracts, loan agreements and lease agreements.
• Internal documents: stock count sheets, depreciation schedules, expense claims with receipts.

Steps 2 and 3: journalising and posting

Step 2 records each analysed transaction in the journal, in date order, with equal debits and credits and a narration. The journal is the book of original entry: it shows each transaction whole. Businesses with high volumes use specialised day books (a sales day book, purchases day book, cash book) and post their totals, but the principle is the same. Our guide on journal entries with examples works through 25 of them.

Step 3 posts each journal line to its ledger account, the book of final entry. The ledger shows the same data sorted by account instead of by date, so that each account's balance can be found. A posting reference in both books links them: the ledger line points to the journal entry, and the journal line shows it has been posted. In a manual system this cross-reference is how you prove nothing was posted twice or missed; in software the link is automatic, and the general ledger report plays the same role. Our guide on the general ledger explained covers the ledger in more depth.

Steps 4 to 6: from unadjusted to adjusted trial balance

Harbour Design is a sole-proprietor design studio in Halifax, Nova Scotia, with a 31 December year end. Its unadjusted trial balance at 31 December 2025, in Canadian dollars, lists debits of: bank 22,000; accounts receivable 15,000; prepaid insurance 2,400; equipment 30,000; drawings 20,000; wages 57,000; rent 18,000; other expenses 5,600. Credits are: accumulated depreciation 6,000; accounts payable 4,000; unearned revenue 5,000; owner's capital 43,000; revenue 112,000. Both columns total 170,000.

A balanced unadjusted trial balance proves only that posting was two-sided. It does not yet show income earned but not billed, costs incurred but not recorded, or assets partly used up. Step 5 fixes that with five adjusting entries, listed below. Step 6 lists the balances again. Revenue is now 120,000 (112,000 plus 3,000 plus 5,000), wages 60,000, accounts receivable 20,000, prepaid insurance 1,800, accumulated depreciation 12,000, unearned revenue 2,000, and a new accrued wages liability of 3,000 appears. The adjusted trial balance totals 184,000 on each side.

• a. A client prepaid 5,000 in November; 3,000 of the work is now done: Dr Unearned revenue 3,000 / Cr Revenue 3,000.
• b. December work of 5,000 is complete but not yet invoiced: Dr Accounts receivable (accrued income) 5,000 / Cr Revenue 5,000.
• c. Staff worked the last days of December; pay of 3,000 falls due on 7 January: Dr Wages 3,000 / Cr Accrued wages 3,000.
• d. Insurance of 2,400 paid on 1 October covers twelve months; three months are used: Dr Insurance expense 600 / Cr Prepaid insurance 600.
• e. Equipment of 30,000 is depreciated straight line over five years: Dr Depreciation expense 6,000 / Cr Accumulated depreciation 6,000.

Step 7: preparing the financial statements

The statements are drawn from the adjusted trial balance, in a fixed order because each feeds the next. The income statement comes first: revenue 120,000 less expenses of 90,200 (wages 60,000, rent 18,000, other 5,600, insurance 600, depreciation 6,000) gives a profit of 29,800.

The statement of changes in equity comes second: opening capital 43,000 plus profit 29,800 minus drawings 20,000 gives closing capital of 52,800. The balance sheet comes third and uses that closing figure: assets of 61,800 (bank 22,000, receivables 20,000, prepaid insurance 1,800 and equipment at a carrying amount of 18,000) equal liabilities of 9,000 (payables 4,000, unearned revenue 2,000, accrued wages 3,000) plus equity of 52,800. The statement of cash flows is prepared from the movements in cash; our guide on the cash flow statement using the indirect method builds one step by step. Our guide on trial balance to financial statements covers presentation in depth; the point here is the order.

Step 8: closing entries

Income, expense and drawings accounts are temporary: they measure one period and must start the next at zero. Closing entries transfer their balances into equity. Many courses use an intermediate income summary account so that the year's profit appears as a single figure before it moves to capital (or, in a company, to retained earnings, which our guide on retained earnings explains). Harbour Design's closing entries are listed below.

After closing, the income summary account is zero and capital stands at 43,000 plus 29,800 minus 20,000, which is 52,800, matching the balance sheet. If the closing entries do not bring capital to the same figure, either a temporary account was missed or the statements were prepared from the wrong trial balance.

• Close revenue: Dr Revenue 120,000 / Cr Income summary 120,000.
• Close expenses: Dr Income summary 90,200 / Cr Wages 60,000 / Cr Rent 18,000 / Cr Other expenses 5,600 / Cr Insurance expense 600 / Cr Depreciation expense 6,000.
• Close the profit: Dr Income summary 29,800 / Cr Owner's capital 29,800.
• Close drawings: Dr Owner's capital 20,000 / Cr Drawings 20,000.

Step 9: the post-closing trial balance

The post-closing trial balance lists only permanent accounts, those that carry into next year. Any income or expense account still showing a balance means the close was incomplete. For Harbour Design the debits are bank 22,000, accounts receivable 20,000, prepaid insurance 1,800 and equipment 30,000, totalling 73,800. The credits are accumulated depreciation 12,000, accounts payable 4,000, unearned revenue 2,000, accrued wages 3,000 and owner's capital 52,800, also totalling 73,800.

These balances become the opening balances of 2026. The post-closing trial balance is therefore the natural checkpoint when moving between years or between systems: whatever opening figures are loaded into next year's books, or into a new accounting system, should agree with it line by line.

Step 10: reversing entries

A reversing entry, dated the first day of the new period, cancels an accrual made at the end of the old one. It is optional, but it lets staff record the next real invoice or payment in the normal way without remembering what was accrued. Take Harbour Design's accrued wages. On 1 January 2026 the reversing entry is Dr Accrued wages 3,000 / Cr Wages 3,000, which leaves the wages account with a temporary credit of 3,000.

On 7 January the full payroll of 5,000, covering late December and early January, is paid and recorded as usual: Dr Wages 5,000 / Cr Bank 5,000. January's wages expense is 5,000 minus 3,000, which is 2,000, exactly the part that belongs to January. Without the reversal, the payroll clerk would have to split the payment by hand: Dr Accrued wages 3,000 / Dr Wages 2,000 / Cr Bank 5,000. Both routes give the same result; reversal is simply less error-prone when many accruals exist.

Only accruals and deferrals first recorded in a way that the next routine transaction would double-count are good candidates for reversal. Depreciation, allowances and inventory write-downs are never reversed this way.

How the cycle runs in practice

In a modern business, steps 2 to 4 happen almost the moment a document is approved: an invoice posts itself to the ledger and the trial balance is always available. The work that remains human is at both ends of the cycle: judging whether source documents are complete and correctly dated, and making the period-end adjustments, reviews and closes. That is why month-end close checklists focus on cut-off, accruals, reconciliations and review; our month-end close checklist and balance sheet reconciliation guides go through them.

Monthly closes usually stop at step 7 and do not post formal closing entries; the year-to-date profit simply stays in the income and expense accounts. Instead, the month is locked so that nobody can post into it after reports are issued. Year-end adds steps 8 and 9, and the audit, if there is one, reviews the whole cycle.

Running the accounting cycle in Skyline Nexus ERP

In Skyline Nexus ERP steps 2 to 4 are largely automatic. With the auto-post settings switched on, sales, purchases, payments, expenses, payroll and depreciation each post a balanced journal right after the document is saved, and the trial balance can be viewed at any time in a Simple mode or an Opening / Movement / Closing mode for a date range. Adjusting entries are entered as manual journals, and a reversing entry is made with Reverse Journal Entry, which takes its own reversal date and creates a mirror-image posted journal, so each reversal is a deliberate, dated action that a reviewer can see in the ledger.

The periods themselves are explicit. Every posting looks up the fiscal period for its date and is refused if none exists, so next year's fiscal year must be created before the year rolls over. A period can be closed (Soft Close, which can be reopened) or locked (which cannot), and postings into either are refused. At year end, Close Fiscal Year refuses to proceed while any journal in the year is unposted, then posts the closing entries, zeroing revenue and expense accounts to the Income Summary account and then to Retained Earnings, and locks every period of the year in the same step.

Related guides

Each step of the cycle has its own guide in this series, so you can go deeper wherever the example raised a question.

• Journal entries with examples: step 2 across a full month.
• Adjusting entries explained: step 5 with every type of adjustment and the effect of forgetting each one.
• Accrual versus cash basis accounting: why steps 5 and 10 exist at all.
• How to read financial statements: what the output of step 7 tells a reader.
• Month-end close checklist: the practical routine around steps 4 to 9.
• Finding and correcting accounting errors: what the trial balance catches and what it does not.
• Retained earnings explained: how closing entries build equity year after year.
• Cash flow statement, indirect method: step 7's fourth statement worked in full.