Closing Internal Accounting

Analysis Made for the Internal Accounting Configuration

By Emanuel Schwarz

(December 6, 1999) - We are near the end of our basic discussion about the special structure of an Internal Chart of Accounts. We will discuss the important question about how to close the different accounts within our Internal Accounting.

The Internal Chart of Accounts was developed within the frame of the Financial Accounting structure - but without mixing with the External General Ledger accounts. To elaborate the Cost Elements within the Internal structure, which would correspond to the very first Class of Accounts (in this case Class 2), identify and use the Expenditures ( or Expense) amounts registered in the Financial Accounting.

The General Ledger Expense accounts in our Financial Accounting indicate the amount of Expenses that our company had during this month. The Internal Accounting will have to analyze these amounts and establish how much of these amounts correspond to the accrued values of our Internal Accounting. It is important that we, who will take care of the Internal Accounting, understand the question of the Matching Philosophy.

In this case of the Internal Accounting, the matching is not related to the amount of Sales - but to the amount of cost synchronized toward the Functional Activities - toward the Cost of Production.

In our External Accounting we have created (within the Assets) accounts referring to the Prepaid accounts. We agreed that some advance payments should not be charged as the sole expense for this actual month. We would otherwise receive a wrong impression of Net Income in our Income Statement. So these Pre-paid accounts were-established.

Now that we have the new Internal Accounting, we do not need more to work more with these Pre-paid accounts. We have our Internal Accounting, which is structured with the view of accrued amounts. Within our Internal Accounting (in Class 7) we will have prepared all matched amounts to compare with 'the Sales Revenues.

With this advanced internal accounting structure, all prepaid accounts within our assets are outmoded.

As we now have finished with recording and posting of all values both for our Financial Accounting as for the Internal Accounting - we now will compare amounts of the External Accounting with those of Class 2, Cost Elements, of the Internal one.

Let us study our graphic presentation of the Internal Chart of Accounts.

Group 1 of the Cost Elements is the same account as we have in the External Accounting. Therefore we will transfer the month-end balance of these accounts to an account that we may identify as showing the variances between Expenditure and Cost.

In the graphic presentation that you will have seen in my articles, I have developed an accounting structure for both the External and Internal Accounting. This approach would be the very best and the most practical.

But we could also structure this variance account within Class 7 accounts.

The basic point is to have information regarding the total Expenditures compared with the total Cost Elements. The next group of accounts, both in the External and Internal accounting, refer to the benefits accounts. By the month-end closing, we have to transfer the balance of these two group of accounts, to some variance account for analyzes.

The next group of accounts refers to the Stores purchase and withdrawals. In the External Accounting we would have the Stores purchase accounts - which we would debit with the amount of purchase we have realized of some raw material, supplies or parts. We would use these accounts as "contra" accounts for the Inventory accounts in the Assets.

As a consequence, we have to transfer the month-end balance of the purchase accounts to the inventory accounts in the Assets. In the same way we would proceed with the Stores Withdrawal account in Class 2. From the debit of this account we take the month-end balance to the credit of the Inventory Account in our Assets.

The Asset's Purchase accounts in the Expenditure Class will be used in same way as we explained with the Stores Purchase accounts. These Asset's purchase accounts will be used as "Contra" accounts of the Fixed Assets.

You can see that the group 4 account in Class 2 (Cost Elements) is identified as the Depreciation account. The value of depreciation is the accrued cost amount for the month. The next four groups of Cost Elements accounts refer to the basic classification of the different Cost Elements that our company may have.

Here we have the Administrative Costs, the General, Financial and Utilities costs of our company. The same groups we would also have in the External Accounting and by each month-end procedure would take the balance of these accounts to some Variance account.

Only the last group of Expenditures does not have any Cost Element accounts. This last group refers to the Non-Operating expenditures. These amounts have nothing to do with the internal accounting costs.

The next step will take us to the Class 3 and 4 accounts. These accounts pertain to the Departmental Operating Costs. In the total graphic presentation of this Internal Accounting, we can see that the balance from all these accounts in Class 3 and 4 will be taken to the same Variance accounts.

We may have them in the Class 7 or Class 9 accounts. These variance accounts will show us if there exist some difference between the actual amounts that we have charge to these departments and the absorbed amounts that we transferred to the Functional Activities accounts or Cost of Goods Sold.

Such variance would depend on the level of production intensity. From the Functional Activity accounts in Class 5 and 6 we have to transfer the month-end balance to some Other Assets accounts. Within this group of accounts we will have to establish specific main accounts to show the work in process amounts of the different functional activities.

As Class 7 is referring to three specific groups of accounts, the month-end balances of these groups are transferred to different accounts. The first group of accounts is referring to the Cost of Finished or Semi-Finished products and the cost of some special sold products. Month-end balances will be taken to some specific account that will show us the Calculated Operating Profit or Loss.

The second group within this Class 7 is referring to the production transferred to the Inventory accounts of the Assets. The third group of Class 7 is a special group that companies need to control their transfers of major repairs or constructions to specific accounts of the Assets. We also have a group of accounts that will control the transfer of products between the factory and its subsidiary entities. s you will be able to observe, the Internal Accounting is structured in a very strict formation. Each group of accounts within its specific Class is clearly identified and the month-end balances are plainly guided to the corresponding accounts, to give management the necessary information.

It is important that the month-end transactions are perfectly established so there will be no misunderstandings how to proceed. This strict construction is also very helpful for developing computer programs for this internal Accounting.