Define the Income Summary account.
It is a temporary account used during the adjusting process to summarize assets and liabilities.
It is a temporary account used during the closing process to summarize revenues and expenses.
It is a permanent account used during the closing process to summarize revenues and expenses.
The Correct Answer and Explanation is :
The correct answer is:
It is a temporary account used during the closing process to summarize revenues and expenses.
Explanation:
The Income Summary account is a temporary account that plays a crucial role in the closing process at the end of an accounting period. Its purpose is to summarize the total revenues and expenses of a company for that period, which is an important step in preparing the financial statements and resetting the revenue and expense accounts for the next period.
Here’s how the Income Summary account works:
- Revenue and Expense Accounts: At the end of an accounting period, all revenue and expense accounts are closed to the Income Summary account. This is done by transferring the balances from each revenue account (like sales revenue) and expense account (like salaries expense) to the Income Summary account. This process ensures that the balances in these temporary accounts are reset to zero for the start of the next period.
- Closing the Accounts: When the balances from the revenue and expense accounts are transferred, the Income Summary account will reflect the net income or net loss for the period. If the total revenues exceed total expenses, the Income Summary account will have a credit balance, indicating net income. Conversely, if expenses exceed revenues, the Income Summary account will have a debit balance, indicating a net loss.
- Final Step: After the balances have been transferred to the Income Summary account, it is then closed to the Retained Earnings account (or the owner’s capital account in non-corporate businesses). This final closing step reflects the impact of the period’s income or loss on the company’s equity.
By using the Income Summary account, the financial statements accurately represent the company’s performance over the period while also preparing the revenue and expense accounts for the next period. It helps ensure that all income and expense accounts are properly reset.