To close net income to retained earnings, debit the Income Summary account for the period’s net income and credit Retained Earnings for the same amount. That single entry moves the profit off your temporary accounts and into permanent equity. It’s the third of four closing entries, and it only works if you’ve already funneled every revenue and expense balance into Income Summary so the account actually reflects net income.
Here’s the full sequence, with the retained earnings entry in context.
Close Revenue Accounts Into Income Summary
Revenue accounts carry credit balances all year. To zero them out, debit each revenue account for its full balance and post a single credit to Income Summary for the combined total. If your business earned $80,000 in service revenue and $3,000 in interest revenue, you’d debit Service Revenue for $80,000, debit Interest Revenue for $3,000, and credit Income Summary for $83,000.
Every revenue account now sits at zero, ready for fresh activity next period. Income Summary holds the revenue total as a credit balance.
Close Expense Accounts Into Income Summary
Expense accounts work in the opposite direction. They carry debit balances, so you credit each one for its full amount and post a single debit to Income Summary for the total. If total expenses across payroll, rent, utilities, supplies, and depreciation came to $65,000, debit Income Summary for $65,000 and credit each individual expense account to bring it to zero.
Income Summary now reflects both sides of the business’s performance. In this example, it holds a credit balance of $18,000, the net income for the period.
Close Income Summary Into Retained Earnings
This is the entry the question is really about. When Income Summary carries a credit balance, the business earned a profit, and that profit needs to move into the permanent equity section of the balance sheet.
Record a debit to Income Summary for the full balance and a credit to Retained Earnings for the same amount. Using the numbers above:
- Debit Income Summary $18,000
- Credit Retained Earnings $18,000
That single entry does two things. It zeroes out Income Summary so the account is clean for next year, and it increases accumulated retained earnings by the profit the business kept. Retained earnings is a permanent account. It never resets. It’s the running total of every dollar of profit the company has earned and not distributed to shareholders since it was formed.
If the Period Ended in a Net Loss
When expenses exceeded revenue, Income Summary shows a debit balance instead of a credit. The closing entry flips: debit Retained Earnings and credit Income Summary. That reduces the company’s accumulated equity, which makes sense because a loss shrinks what the business has available for reinvestment or future distributions.
A persistent debit balance in retained earnings, sometimes called an accumulated deficit, can signal trouble. Lenders and investors watch this figure closely, and some state corporate statutes restrict a company’s ability to pay dividends when retained earnings are negative.
Close the Dividends Account
Dividends don’t run through Income Summary because they aren’t an operating expense. They’re a distribution of equity to shareholders. To close the account, debit Retained Earnings and credit Dividends for the total distributed during the period. If the company paid $5,000 in dividends, that $5,000 comes directly off the retained earnings balance.
The dividends account resets to zero, and retained earnings now reflects the net change for the year: net income added, dividends subtracted.
Verify With a Post-Closing Trial Balance
After all four closing entries are posted, run a post-closing trial balance. It should contain only permanent accounts: assets, liabilities, and equity (including the updated retained earnings balance). Every temporary account — revenue, expenses, Income Summary, dividends — should show a zero balance.
If debits and credits don’t balance, or if a temporary account still carries a balance, something went wrong. Catching the error here is far easier than discovering it months into the next period when you’re trying to figure out why the income statement looks inflated.
What Accounting Software Does Automatically
If you use QuickBooks, Xero, or similar software, the closing entry to retained earnings often happens automatically at your fiscal year-end date. The software transfers the net income balance into retained earnings without a manual journal entry. The income statement resets to zero for the new period, and retained earnings updates on the balance sheet.
Automation removes one of the more error-prone parts of the process, but it doesn’t remove your responsibility to verify the result. After the software runs the close, confirm that retained earnings equals prior-year retained earnings plus net income minus dividends. If the number looks off, check whether any adjusting entries were missed before the close date or whether transactions were posted to the wrong period.
Some software skips Income Summary entirely and closes revenue and expense accounts directly to retained earnings. The result is identical, just with fewer intermediate steps. Income Summary is more a teaching tool than a practical necessity in modern systems.
Sole Proprietorships, Partnerships, and LLCs
The mechanics above assume a corporation with a retained earnings account. If you operate as a sole proprietorship, the destination account is typically Owner’s Capital (or your name followed by “Capital”). Partnerships use a separate capital account for each partner.
The closing steps are the same. Close revenue to Income Summary, close expenses to Income Summary, then close Income Summary to the owner’s capital account. The one structural difference is the last step. Instead of closing a dividends account, you close Owner’s Draws (or each partner’s drawing account) by debiting capital and crediting draws.
LLCs follow whichever pattern matches their tax election. A single-member LLC taxed as a sole proprietorship uses owner’s capital and draws. A multi-member LLC taxed as a partnership uses member capital accounts. An LLC that elected corporate taxation uses retained earnings and dividends like any other corporation.
Why the Balance Has to Be Right
For C corporations filing Form 1120, the retained earnings figure produced by these closing entries feeds into Schedule M-2, which reconciles the beginning and ending balances of unappropriated retained earnings. The schedule starts with the prior-year balance, adds net income per books, subtracts cash and property distributions, and arrives at the year-end figure.1Internal Revenue Service. Form 1120 – U.S. Corporation Income Tax Return If your closing entries are wrong, Schedule M-2 won’t reconcile, and that’s the kind of discrepancy that draws attention during an audit.
The net income you close to retained earnings will almost never match your taxable income. Depreciation methods differ between book and tax accounting, some expenses aren’t deductible, and some book income (like tax-exempt interest) doesn’t appear on the return. Schedule M-1 is where those differences get reconciled.2Internal Revenue Service. 2025 Instructions for Form 1120 – U.S. Corporation Income Tax Return Getting the book side right is the starting point for that reconciliation.
Calendar-year C corporations must file Form 1120 by April 15, with an automatic six-month extension available via Form 7004.3Internal Revenue Service. Publication 509 (2026), Tax Calendars The extension gives you more time to file but not more time to pay.
For publicly traded companies, the stakes climb further. The CEO and CFO must personally certify that periodic financial reports fairly represent the company’s financial condition, with substantial fines and prison time for officers who knowingly certify misleading statements.4Office of the Law Revision Counsel. 18 USC 1350 – Failure of Corporate Officers to Certify Financial Reports A single closing-entry mistake won’t put anyone in prison, but closing entries determine the retained earnings balance that flows into the equity section investors rely on. For private companies, inaccurate financials can still trigger lender covenant violations, tax penalties, and lost investor confidence.