Closing transfers: turning ledger balances into profit

Why the books get closed off

A business does not run forever without stopping to count. At the end of the financial year the owner wants one number answered honestly: did the business make a profit, and how much?

Think about what has been building up in the ledger all year. Every sale added to the Sales account. Every salary payment added to the Salaries account. Those accounts measure the flow of one year, and one year only. Next year is a fresh question, so those accounts must start again at nil.

Accounts that get emptied at year end are called nominal accounts: all income, all expenses, and Cost of sales. Accounts that carry their balance forward are balance sheet accounts: assets, liabilities and Capital. The money in the bank on 28 February is still the money in the bank on 1 March. Last year's salary total is not.

Closing off means moving the balance of every nominal account into a final account, so the nominal account is left with nothing and the profit collects in one place where you can read it.

The two final accounts

Profit is worked out in two stages, and each stage gets its own account in the General Ledger.

The Trading account answers a narrow question: what did the business make on the goods it sold? Only two things go in, Sales and Cost of sales. The difference between them is gross profit.

The Profit and loss account answers the wider question: what is left after paying to run the business? Gross profit arrives from the Trading account, all other income is added, and all expenses are taken off. What remains is net profit.

Net profit belongs to the owner, so the last transfer moves it into Capital. Drawings, which is what the owner took out during the year, is also cleared into Capital, but directly, never through Profit and loss.

Worked example

Worked example. Bokamoso Traders (owner T. Molefe, Mahikeng) has these ledger balances on 28 February 2026, before any closing off.

Stage 1 — the Trading account. Sales of R480 000 is a credit balance, so to empty it you debit Sales R480 000 and credit Trading account R480 000. Cost of sales of R300 000 is a debit balance, so you credit Cost of sales R300 000 and debit Trading account R300 000. The Trading account now holds R480 000 on the credit side and R300 000 on the debit side. Gross profit is R180 000.

That R180 000 is moved on: debit Trading account R180 000, credit Profit and loss account R180 000. The Trading account is now empty, which is the point.

Stage 2 — the Profit and loss account. Rent income of R24 000 is closed off: debit Rent income, credit Profit and loss. The four expenses total R132 000 (96 000 + 18 000 + 12 000 + 6 000), and they are all debit balances, so they are credited to empty them and the Profit and loss account is debited with R132 000.

Profit and loss now has R180 000 + R24 000 = R204 000 on the credit side and R132 000 on the debit side. Net profit is R72 000.

Stage 3 — into Capital. Debit Profit and loss R72 000, credit Capital R72 000. Then debit Capital R40 000, credit Drawings R40 000. Capital ends at R300 000 + R72 000 − R40 000 = R332 000.

Core checkpoint: Sales and Cost of sales go to the Trading account. Every other income and every expense goes to the Profit and loss account. Net profit and Drawings go to Capital. To close an account you enter the opposite of its balance, which is why income accounts are debited and expense accounts are credited on closing day. If any nominal account still shows a balance after closing off, you have missed a transfer.