Notes

Learn the definition of both temporary accounts and permanent accounts. Understand how these accounts differ see temporary and permanent account examples.
Temporary or Permanent?
Have you ever thought about getting a tattoo? I used to think that maybe one day I would get one, but then I chickened out. Would you like to know why? Because I knew that it would be something permanent on my body. The lick 'em and stick 'em kind that are in the Cracker Jack's box - well, I could do those. They're temporary and can be erased whenever I want them to be.

That same concept can be used to explain temporary and permanent accounts in accounting. Temporary accounts, like temporary tattoos, are only around for a little bit, while permanent accounts, like permanent tattoos, are there forever. So, what's the difference between these two types of accounts? The difference is how long they stick around.

Temporary Accounts
Temporary accounts, which are also called nominal accounts, are company accounts whose balances are not carried over from one accounting period to another, but are closed, or transferred, to permanent accounts at the end of an accounting period. The purpose of temporary accounts is to show how any revenues, expenses, or withdrawals (which are usually called draws) have affected the owner's equity accounts. The accounts that fall into the temporary account classification are revenue, expense, and drawing accounts.

Revenue accounts are the accounts that increase owner's equity due to sales of goods or services. Expense accounts are the accounts that decrease owner's equity due to expenses related to day-to-day operations. The owner's drawing account is the account that tracks the amount of money taken out of the company for the owner's personal use.

Permanent Accounts
Permanent accounts, which are also called real accounts, are company accounts whose balances are carried over from one accounting period to another. Permanent accounts are the accounts that are seen on the company's balance sheet and represent the actual worth of the company at a specific point in time. Though the balances in these accounts change from daily transactions that are part of the normal business operations, these account balances are never closed out nor transferred to the owner's capital account.

The permanent accounts are classified as asset, liability, and owner's equity accounts, with the exception of the owner's drawing account. Asset accounts are the accounts that represent items that a company owns. Liability accounts are the accounts that represent items that a company owes. Owner's equity accounts are the accounts that represent the personal investment a company owner has made in the business.

Differences Between the Two
Now that you know what temporary accounts and permanent accounts are, let's look at the difference between the two. Temporary accounts accrue balances only for a single accounting period. At the end of the accounting period, those balances are transferred to either the owner's capital account or the retained earnings account. Which account the balances are transferred to depends on the type of business that is operated.

A corporation's temporary accounts are closed to the retained earnings account. The temporary accounts of a sole proprietorship are closed to the owner's capital account. Closing an account means exactly what it says. It zeroes out the temporary account balances to get those accounts ready to be used in the next accounting period.

Permanent accounts are just the opposite. These accounts have running balances, which means that they change with every addition or subtraction made due to transactions, but they're never closed, or zeroed out, and not on a specific time frame. That is not to say that permanent accounts never have zero balances; it just means that the closing activities that take place in temporary accounts don't occur in permanent accounts.

Lesson Summary
A company's accounts are classified in several different ways. One way these accounts are classified is as temporary or permanent accounts. Temporary accounts are company accounts whose balances are not carried over from one accounting period to another, but are closed, or transferred, to a permanent account. Temporary accounts are also called nominal accounts. Permanent accounts, which are also called real accounts, are company accounts whose balances are carried over from one accounting period to another.

Temporary accounts come in three forms: revenue, expense, and drawing accounts. Permanent accounts are found on the balance sheet and are categorized as asset, liability, and owner's equity accounts. Temporary accounts are zeroed out by an action called closing. Closing an account means that the balance of a temporary account is transferred to a permanent account. Temporary accounts are closed at the end of the accounting period to get them ready to use in the next accounting period. Both real and temporary accounts work together to help make the accounting process as accurate and complete as possible.