Accounting departments typically "close" the books at the end of an accounting period, usually monthly. Quarter-end and year-end closes are particularly significant because these periods also represent Securities and Exchange commission reporting deadlines for publicly traded companies. Financial reports are generated at quarter and year-end periods for use by management and stockholders to take the company's pulse. Where accounts "close to" depends on the nature of the accounting system used and the type of account.
At the end of each accounting period, accountants work to close the temporary accounts for the period. Every account feeds into the general ledger where the permanent or real accounts are kept. Real accounts are those defined by what appears on the balance sheet: assets, liabilities and shareholders' equity accounts. These accounts never close, as their balances are carried forward to the next period. Temporary accounts start with a zero balance each month after close.
Distribution, Revenue and Expense Accounts
Distribution, revenue and expense accounts are accounts used to collect information throughout the period whose ending balance for the month closes to the appropriate permanent account. Each of these accounts starts with a zero balance at the beginning of the month and, after transferring the month's activity in the form of a number, zeroes out during close. Revenue accounts include all the revenue generated for the specific period. Expense accounts include all the various expenses categorized independently, such as rent, utilities, payroll and more. Distribution accounts handle distributions to shareholders and are considered "equity statement" accounts.
A distribution account represents the activity of distributions made during the month. This may include equity payments to shareholders or dividends to stockholders. Distribution accounts close to the retained earnings account. Monthly activity is captured in the distribution account and fed into the retained earnings account at the end of the accounting period. The distribution account (it may be called by any name, depending on the company's accounting system) starts the month with a zero balance. If there is no activity in the month, nothing is transferred. If there is activity, the ending balance transfers to the retained earnings account.
The retained earnings account represents equity held by the shareholders of a company. It is a permanent account begun at the time of the company's forming and includes the company's cumulative earnings reduced by any payouts to partners and stockholders. Each month the distribution of equity payments close up into this account. The balance in this account is what the company has earned, but not yet paid to shareholders. Stockholders may elect not to receive dividend payments, and they may allow their stock value to increase instead. The retained earnings account carries over year-to-year, and a credit balance in this account allows the company to financially position itself to meet the rising costs of doing business.