Final answer:
Closing encumbrances in accounting includes reviewing outstanding commitments, liquidating or carrying over valid commitments to the next fiscal year, and reversing entries for commitments no longer required to ensure accurate year-end financial records.
Step-by-step explanation:
The process to close encumbrances at the end of the year in accounting involves several steps. Encumbrances represent commitments or earmarked funds for future expenses. Towards the year-end, these need to be settled or carried over to the next fiscal period depending on whether the goods or services were received, and if not, whether the commitment remains valid.
- Review all outstanding encumbrances to determine if the goods or services related to these funds have been received by the year-end. If they have been received, the encumbrance needs to be liquidated and the actual expense recorded.
- If goods or services have not been received, evaluate whether the commitments are still valid for the next period. If they are, the encumbrance should be rolled over into the next fiscal year.
- For encumbrances related to invalid commitments or those that are no longer required, reverse the encumbrance entry to free up the funds.
This process ensures the accounting records accurately reflect the financial position of the entity at year-end and prepares the accounts for the new fiscal period.