Preparing the Balance Sheet
in the Accounting Cycle

We can now create the Balance Sheet using the Asset, Liability, and Owner's Equity accounts on the Adjusted Trial Balance. These Accounts, or Real or Permanent Accounts, are highlighted on the Adjusted Trial Balance below.







Here is the summary of Assets, Liabilities, and Owner's Equity from the Adjusted Trial Balance. Let's see what happens when we plug these numbers into the Accounting Equation:





The Balance of Owner's Equity on the Adjusted Trial Balance equals $50,000. The Balance of Owner's Equity in the Accounting Equation equals $50,248. Where did the extra $248 come from?

The January Income Statement in the prior section showed us that Sunny Sunglasses Shop earned $248 for the period. Because Net Income Directly Affects Owner's Equity, the profit for the period increases equity as illustrated below.




Sunny Sunglasses Shop
Balance Sheet
January 31, 2007





Sunny used the Net Income for January to increase the Retained Earnings Account. Because the balance in Retained Earnings was previously zero, Retained Earnings now equals the Net Income for the first month of business. After one year of operations, Sunny will increase Retained Earnings by the amount of Net Income for the year.

Like all Permanent accounts, the Retained Earnings account accumulates the balance permanently. For example, if Sunny Sunglasses Shop earns Net Income of $15,000 in year one, and $20,000 after year two, the balance in Retained Earnings will equal the total accumulated earnings of $35,000. If a loss occurs for the accounting period, the accountant reduces Retained Earnings by the amount of the loss.

The business has completed the production of the monthly Statement of Financial Position from the Accounting Cycle.




Financial Statements are produced from the account balances in the Adjusted Trial Balance. The Balance Sheet is created from the Real or Permanent Accounts. Real Accounts are the Assets, Liabilities, and Owner's Equity accounts listed on the Adjusted Trial Balance highlighted above. The Real Accounts accumulate the balances of each Asset, Liability, and Equity account for the life of each account. At the end of an accounting period (e.g. a month, a quarter, or a year), Retained Earnings is increased by the amount of Net Income for the same period.




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