For companies and businesses, accountability of finances and assets is mandatory for the smooth running of all programs. Companies need to record transactions in journal ledgers and in the general ledger, with the trial balance key in the preparation of financial statements like the income statement.
Things we are going to explore here:
- What is a trial balance report?
- Trial Balance Format
- Trial balance items list
- How to prepare a Trial Balance
- Why is it important to prepare a trial balance?
- Types of trial balance
- Trial balance example
- Prepare Income Statement from Trial Balance
- What can make a trial balance not balance?
What is a trial balance report?
This is a financial document prepared at the end of every financial year. It shows the debits and credits of a given business for a certain financial period. In a trial balance, amounts on both the debit side and credit side must balance. Unbalanced debit and credit columns simply denote an error in the accounting system of that company or business.
Trial Balance Format
The trial balance item list shows you what should be included as part of the trial balance worksheet. However, the format generally has four columns that appear in this order:
- account number
- account name (description)
- debit balance
- credit balance
Totals under the debit and credit balances are indicated at the bottom of the worksheet.
Where you record the account balance- whether on either debit or credit side – depends on the type of account. Read the section below to find out where or what balances go to the debit and credit sides.
Trial balance items list
A trial balance lists general ledger account totals but has to show the following details:
- business name
- Serial No
- Date/accounting period
- Account name
- Debit balances
- Credit balances
How to prepare a Trial Balance
The preparation of the trial balance can take two forms: using the account totals (Total Method) and net balances (Balance Method).
Close all books of transactions- the ledger account, the cash book, and the bank account- by ensuring the credit and debit entries balance.
Prepare a four-column worksheet with the following titles: account number, account name, debit, and credit.
Add to the debit column amounts from Assets, Expense account, cash account, bank balances, and losses.
In the credit section of the worksheet, fill balances from Liabilities, income accounts, Capital account, and Profits.
When recording balances in a trial balance, the preparer sorts them by account number, making it easy to find details about a particular account.
The order of balances mirrors that of a balance sheet, typically beginning with assets than liabilities.
The function of a trial balance
The primary function of a trial balance is to show that the total of all debits is equal to that of credits. It helps businesses to generate accurate financial statements. Businesses prepare the trial balance report at the end of an accounting period.
Why is it important to prepare a trial balance?
We have mentioned that the function of a trial balance is to show that balances under debits and credits indeed balance. Here is why else it is important to prepare a trial balance report.
The effective running of any business is mostly anchored on its financial strength which should be well managed. Here are the uses or the importance of a trial balance report.
To verify financial records
Using the trial balance, one can check if all journals, ledgers, and books of accounts are entered correctly and if they balance. It also verifies that every entry is entered on the correct side i.e. either on the debit side or credit side.
A tool for making Financial Statements
Use the information in the trial balance report to prepare documents such as a balance sheet and Profit and Loss statements.
To correct debit/credit errors
You can use the trial balance to note and correct any given arithmetic errors.
The company will be able to compare the balances of the previous financial year to those of the current year. With such information, the company can be able to make an important decision concerning their company like the need to reduce expenses or increasing income.
Useful when preparing an Audit report
Types of trial balance
There are three different stages or types of trial balance as discussed below.
The unadjusted trial balance
Since a trial balance report is prepared from the ledger entries, an unadjusted trial balance is one that is prepared before entries in the journals are adjusted. In other words, it is a reflection of the daily debits and credits.
This trial balance is very useful when preparing the adjusted trial balance.
Adjusted trial balance
This one is prepared once all the adjusting entries are done. It shows the closing balances in all of the company’s accounts. It ensures the errors noticeable in the unadjusted trial balance are correct.
This is the main function of trial balance in the company or business:
- It shows that the company’s debit balances and the credit balances are balanced (they are equal)
- It is the reference document when preparing financial statements like the balance sheet and income statement.
Post-closing trial balance
This trial balance posts all balances in the balance sheets with a net balance of zero. It is the one that ascertains that the credit and debit balances are equal. It also serves as the starting trial balance in the coming financial year.
Trial balance example
Adjusted Trial Balance (example)
For the year ended December 31, 2019
Prepare Income Statement from Trial Balance
Preparing an income statement from a trial balance takes the same process as using the report at the end of an accounting cycle to prepare other financial statements like the Balance Sheet and Cash Flow statement.
First, prepare the adjusted trial balance, and use the account information to construct the income statement. Use the details under the revenue accounts and expense accounts. As the income statement shows a company’s financial performance over a specified accounting period, subtract expenses from revenues to get the net income/profit or a net loss.
How to Prepare a Trial Balance from Ledger
When preparing a trial balance from the ledger, you need to post ledger accounts balances onto a worksheet showing the debit and credit balances from the main ledger accounts.
Add the balances in the chart of accounts under each category- e.g. Assets or Cash. Extract these balances and post them as either debits or credits. Refer above to the section “how to prepare a trial balance” to find out which balances go to which side.
What can make a trial balance not balance?
- Wrong amount of entry
- Correct entry in the wrong column
- Failure to enter an amount in the ledger
- Arithmetic error in the ledger account
The following errors can be detected using a trial balance.
- Posting errors that occur at the ledger entry stage
- Transcription errors – entering credit side amounts on the debit side or a debit entry entered in the credit column.
- Calculation errors can result from extracting the wrong ledger account balance.
A trial balance report is a very important document that any business cannot avoid preparing. It will help you compare your business with peers and make an important decision that nurtures your business.