Closing your financial year

The financial year is the period for which the books are closed and the annual report is prepared. For many Estonian companies it is the calendar year. Closing the year means making the books final: every income and every cost is in the right year, the assets are valued, the result is calculated and moved into equity, and the periods are locked. This guide lists the steps in order, so that the closing is a routine, not a rescue.

Why the closing matters

A closed year is the basis for the annual report and for the opening balances of the next year. If the closing is wrong, the errors go into both. A sale recorded in the wrong year changes the profit of two years, and a missing depreciation charge overstates the value of the company's equipment. Doing the closing carefully once is cheaper than correcting two reports later.

The closing also shows the result of the year. That result is what the owner can later decide to pay out as a dividend, after the tax is considered, so the figure should be right before anyone talks about money.

Step 1: check the cut-off

The cut-off is the check that every transaction is recorded in the year it belongs to. Look at the last weeks of the year and the first weeks of the next. An invoice for work done in December belongs to December, even if the invoice is dated in January. A payment received in January for a sale in December is a payment of a receivable, not a new sale.

Use the open items. The receivables and the payables on the last day of the year must match the documents you hold. An open item without a document is a question to answer before the closing.

Step 2: post the accruals

An accrual records a cost or income in the year it belongs to, even when the invoice or the money comes later. A service used in December but invoiced in January is accrued into December. An accrual is reversed in the new year when the real invoice arrives, so the cost is not counted twice.

A worked example with round numbers. A consultant worked for €2,000 in December and will invoice in January. You post an accrual of €2,000 in December for the expense and for the liability. In January you reverse it, record the invoice, and the expense is in the right year.

Step 3: book the depreciation

Depreciation spreads the cost of a fixed asset over the years it is used. Each year, a charge is recorded for each asset, and the book value of the asset goes down. Check the list of fixed assets, confirm the depreciation of each for the year, and post the charges. A fixed asset that is sold or scrapped during the year must be removed from the list, with its gain or loss recorded.

Step 4: reconcile the bank and the cash

Match every bank line for the year to a document or an explained entry. Confirm the bank balance on the last day of the year against the statement. The cash position and the bank balance in the books must be equal. A difference is a sign of a missing entry, and it must be found before the closing.

Step 5: post the closing entries

The closing entries move the balances of the income and expense accounts into equity at the end of the year, so that those accounts start the next year at zero. The result of the year, which is the difference between income and expenses, becomes part of the retained earnings or the year's result. The entries are the closing entries of the year-end closing.

After the closing entries, check the trial balance. The two totals must be equal, and the income and expense accounts must show zero.

Step 6: lock the periods

Once the figures are final, lock the closed periods, so that they cannot change quietly. A period lock keeps the filed and reported figures the same as the books. A correction later is made in an open period, through a reversal of the original entry and a new entry for the right amount.

Lock the months first, then the year. Keep the locks in place when you file the returns, because the returns refer to the same figures.

Step 7: carry the result forward

Next year begins with the opening balances, which are the closing balances of this year. The result of the year is part of equity, and the balances of the balance sheet accounts carry forward. The balance sheet of the new year must start from the closing figures of the old one. Check that the opening balances agree with the closing balances.

Step 8: prepare the annual report

When the year is closed and locked, the figures for the annual report are ready. The report reads the same books. The guide on the annual report for micro-entities explains the size test, the contents and the deadline.

A simple checklist

• Cut-off checked for the last weeks of the year.
• Accruals posted, and reversed in the new year when the invoices arrive.
• Depreciation posted for every fixed asset.
• Bank reconciled to the balance on the last day.
• Closing entries posted, and the trial balance checked.
• Periods locked, and the opening balances of the next year confirmed.

Key terms in this guide

• Financial year: the period the books cover.
• Year-end closing: the steps that make the year final.
• Closing entry: the entry that moves the result to equity.
• Accrual: a cost or income recorded in the year it belongs to.
• Depreciation: the yearly charge on a fixed asset.
• Fixed asset: an asset kept for more than one year.
• Period lock: the step that fixes a closed period.
• Reversal: the entry that cancels an earlier entry.
• Trial balance: the list of balances on one date.
• Retained earnings: profit not yet paid out.
• Balance sheet: the company's position at year end.
• Receivable: money a customer owes you.

Sources

• Accounting Act (raamatupidamise seadus), financial year and closing rules, Riigi Teataja: riigiteataja.ee
• Income Tax Act (tulumaksuseadus), distributions from retained earnings, Riigi Teataja: riigiteataja.ee
• Centre of Registers and Information Systems (RIK), annual report: rik.ee