As a small business owner, it pays to be familiar and comfortable with your trial balance. A trial balance is an accounting report that lists the balance of all accounts within the general ledger at a given point in time. On the report, account balances are organized into the debit column or credit column based on their ending balance.
Double-Entry Bookkeeping and the Trial Balance
Double-entry bookkeeping requires that all debit and credits in a general ledger balance to zero. When you complete any business transaction—a sale, purchase, etc.—you record a journal entry consisting of a debit to one account and a credit to another. Therefore, the trial balance report should zero out at the bottom after adding the debit and credit columns together.
In general, asset and expense accounts should have a debit balance. Liability, equity, and revenue accounts should have a credit balance.
Here is an example of a trial balance for ABC Corp.
ABC Corp Trial Balance Dec. 31, 2021
Account NumberAccount NameDebitCredit
5200Cost of Goods Sold60,000
Net Income (Loss)10,000
How Is the Trial Balance Used?
When people recorded transactions manually, they used the trial balance to ensure there were no calculation errors. The trial balance had to add to zero. If the trial balance didn't equal zero, it meant an amount in a transaction was transposed or entered incorrectly as a debit or credit. The difference between the debit and credit columns could lead you to find and correct the error.
Modern accounting systems can identify these types of errors before you run a trial balance. However, trial balances still have some important uses. Internally, managers or business owners may want to see all of the business's account balances in one easy-to-read report. Because the financial statements are derived from the account balances in the general ledger, you can use the trial balance to identify the amounts that make up certain line items on these reports. This makes the trial balance a vital part of financial statement analysis.
External auditors may propose adjustments to general ledger accounts based on their findings during a financial audit. As the business owner or manager, you can run a trial balance to show the balances in each account before and after proposed audit adjustments. In this instance, the report is called an adjusted trial balance. It shows columns for the original balances, the proposed adjustments, and the account balances after the adjustments.
Limitations of the Trial Balance
A trial balance can help you trace an error by calculating the difference between the debit and credit columns. However, there are limitations to its error detection capabilities. For example, a trial balance cannot detect certain errors in which the sum of all debits and credits still adds to zero. Other examples of undetectable errors in a trial balance include:
- Compensating error. The transaction includes two errors that offset each other— for example, the debit and credit amounts are both overstated by $10.
- Error of duplication. The transaction is entered more than once.
- Errors of omission. The bookkeeper omitted some transactions entirely.
- Error of reversal. Transactions recorded backward—the debit and credit amounts are recorded in the opposite account.
Despite its limited ability to detect errors, the trial balance continues to be a vital internal report for business owners. It's important to understand the main components of the trial balance, and you can refer to it while analyzing your financial statements.