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The profit and loss account (income statement)


This brief post covers the basics of the profit and loss account. The profit and loss accounts lists all income and expenditure, with the difference being they profit or loss made by the business. The profit and loss account has two parts, albeit in the same statement. The first part account calculates the profit earned from buying and selling goods. This is called the Trading account.

Here’s an example of the layout.

Trading account for Red Books for year ended 31/12/2009

€/£

€/£

Sales

250,000

LESS COST OF SALES

Opening stock

20,000

Purchases

150,000

170,000

Less closing stock

30,000

Cost of sales

140,000

Gross profit

110,000

Here’s a brief explanation of each of the some of the items and terms above. First, there is the title of the account. It informs the user of the name of the statement (what), the name of the business (who) and the time period involved (when).

Sales: The amount of money earned by the business selling books in the past year i.e. Income. Sales returns/returns in may have to be subtracted to get this figure.

LESS COST OF SALES: this is a heading, which indicates that this calculation is going to be completed. This calculation will work out the cost of all the books that were sold in the year. It is calculated as follows

Cost of sales = opening stock + purchases – closing stock.

Opening stock: This is the value of stock left over from the previous year. This stock will be the first to be sold in the this year, thus it is a cost for this year (c.f. the accruals concept)

Purchases: This is the cost of all the new books bought during the year. (Additional costs like carriage in and import duty might be added to the purchase cost). Purchase returns/returns out may have to be subtracted.

Closing stock: This is the value of all the books left at the end of the year. It is subtracted from opening stock and purchases, as it does not form part of the goods sold during this year (c.f. accruals concept).

Cost of sales: This is the answer to the calculation of the cost of sales.

Gross profit: This measures the profit the business makes by buying and selling books. It is calculated as follows:

Gross profit = Sales – Cost of Sales

The second part, the profit and loss account calculates the profit the business has earned after allowing for all the expenses incurred in running the business. Here’s an example following on from the trading account above

Profit and loss account for Red Books for year ended 31/12/2009

€/£ €/£
Gross Profit 110,000
LESS EXPENSES
Wages and salaries 40,000
Depreciation 20,000
Light, heat and telephone 10,000 70,000
Net Profit 40,000

As you can see, the profit and loss account starts with the Gross Profit and deducts expenses to arrive at Net Profit. Net profit is the profit that is owed to the owner(s) of the business. In the case of a sole trader, this forms part of the capital of the business, whereas with a company the shareholders may be paid a dividend from available profits.

All other elements from the Trial Balance i.e. assets, liabilities and capital do not appear on the Profit and Loss account, but the balance sheet.

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About martinjquinn

I am an accounting academic, accountant and author based near Dublin, Ireland.

12 responses to “The profit and loss account (income statement)”

  1. nelly says :

    This was so helpful, thank you so much

  2. tqah says :

    what is import duty?

    • martinjquinn says :

      Import duty is a tax paid on goods imported from another country. It is normally paid by businesses.

  3. Mogomotsi says :

    I would like to know where would I allocate customs duty on my income statement?

    • martinjquinn says :

      Customs duty is not normally shown separately. It would be included in purchases or whatever expense it has been paid on.

  4. Ankit kapoor says :

    Where is custom duty recorded in financial statement ?

  5. jimmy says :

    What value should my opening stock have in the trading profit & loss account? should it be at the purchase value from manufacturer or the anticipated selling value from sales to be made

    • martinjquinn says :

      It should be the cost (or purchase value as you say), and this could include other costs like shipping costs for example

  6. Aleena says :

    Why we are doing opening stock less closing stock on companies profit and loss account?.what is the meaning of opening stock less closing stock? Opening stock comes from last year and closing stock from current year. Then why we minus this 2 items?

    • martinjquinn says :

      Opening stock from last year is assumed to be used this year, so is added (not subtracted as you say) to cost of sales this year. Similarly, closign stock is assume used next year, so is subtracted.

  7. Richard says :

    Wonderful breakdown. This was so clear! Thank you very much.

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