As an accounting professional, having a solid knowledge of trial balance is imperative. Accounting errors are common in businesses and it is crucial to find them at the earliest before they cause any harm to the company. Professionals handling accounting with investment banking are well aware of such instances.
Trial balance is one of the best ways in which this problem can be handled. This balance is vital for businesses that use accrual accounting. This means that the credit and the debit amounts must match one another. In case there is a mismatch, it indicates an error in the books. With a trial balance, you can find out and get to the roots of the error in double-entry accounting books.
Understanding what is a trial balance?
A business might have different accounts. A trial balance can be defined as a statement where there is a record of the final ledger balance of the various accounts in a business. The two columns in a trial balance are debit and credit. In the final report, you can see if the debit and the credit equal one another at a given point in time. If the debits and credits do not match the trial balance, it indicates errors.
The trial balance is prepared annually during year-end. It is used for preparing balance sheets or financial statements like profit and loss accounts. The main purpose that a trial balance serves is to ascertain the mathematical accuracy of the various business transactions which are recorded in the ledgers of the company.
Common errors in a trial balance
A trial balance might have unequal debits and credits. This is due to some errors. Any graduate program for commerce lists these as some of the most common errors in a trial balance:
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Transposition errors
Such errors happen when the order of two or more numbers reverses while recording a transaction. For instance, 16 gets recorded as 61 or 36 gets recorded as 63 and so on.
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Errors of omission
It is evident from the name that in this error, you forget to record an accounting entry into the books.
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Reversing entries
This is one of the most dangerous errors where there is a switch in the account to be credited and the account to be debited.
In case the debits and the credits don’t match, don’t be anxious. The main objective of a trial balance is to find the loophole and fix it so that you have accurate accounting books at the end of the financial year. While closing your books, preparing a trial balance is mandatory.
Preparing a trial balance
When you are looking to prepare a trial balance, you can choose from the below-mentioned three methods:
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Balance method
In this method, every ledger account’s final credit/debit balance is used in the trial balance. Once you list the balance figures of all the accounts, the trial balance helps in checking the accuracy of all the transactions. This is for both the debit and the credit side. This is the most popular method for preparing a trial balance.
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Total method
This method records each and every ledger account’s final credit/debit columns to the trial balance. Both columns should have the same values and be equal as this method follows the double-entry bookkeeping method.
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Total plus balanced method
It is evident from the name of the method that it combines both balanced and total methods. There are four columns in the trial balance - two for the debit and credit totals of a ledger account and two for the account’s debit/credit balances.
Different types of trial balance
You are mistaken if you think business owners prepare trial balances just once towards the end of the financial year. The fact is that they prepare it many times during the accounting cycle. While closing the books, you have to use three trial balances - one each for three different stages in the cycle. This helps in balancing credits and debits always.
Let us look at the different types of trial balances:
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Adjusted trial balance
In this, you can see the final balances in the general ledger accounts after you are done with adjusting entries.
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Unadjusted trial balance
This displays the balances in the general ledger account before you finish adjusting the entries.
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Post-closing trial balance
This is the account balance after you complete closing the temporary accounts.
The importance of trial balance in closing the books
As an individual handling accounting with investment banking, you must be well aware of the importance of trial balance in closing the books. People have a misconception that a trial balance and a financial statement are the same. They are not. The trial balance is more of an internal report.
Here are some reasons why a trial balance is important for closing the books:
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Step for preparing a financial statement
Though a trial balance is not a financial statement, it is definitely the stepping stone for preparing a financial statement. The majority of accountants use this trial balance sheet as the base while preparing the final financial statement.
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Implementation of the double-entry concept of bookkeeping
In trial balances, the double-entry method of bookkeeping is implemented. There is a corresponding credit entry in the credit column against all recorded entries in the debit column.
As there is the recording of all the entries from the different ledgers of the organisation, it is easy to identify and rectify errors if any.
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Detailed information on accounting transactions
With a trial balance, you can make out if the account balances are extracted accurately from the accounting ledgers. Moreover, it also provides an overall view of the company’s accounting transactions. Before scrutinising the ledgers, auditors can analyse the trial balance.
Conclusion
Even though there are many solutions for detecting and rectifying accounting errors, the trial balance remains an integral part of all accounting processes. It is a crucial procedure when it comes to the closing of books of accounts in any organisation. A student pursuing commerce at the graduation level will surely learn about trial balance and its various uses and applications.
If you are interested in pursuing a graduate program for commerce, you can enrol on Imarticus Learning’s B.Com from Rathinam College of Arts & Science. This is a 3-year full-time course including leading programmes with 2 specialisations - Professional Accounting with Investment Banking and Banking & Insurance with Financial Analysis. The course provides critical insights into financial analysis, corporate finance, valuation and modelling.
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