The profit and loss account

1. The profit and loss account

2. The profit and loss account is produced by a business to show: • How much net profit has been made • How much net loss has been made • All the expenses for the year.

3. Net profit or loss for the financial year is calculated as follows: Gross profit – Expenses = Net profit or loss The profit and loss account is presented in a vertical format.

4. Expenses Expenses are the day-to-day running costs that the business will have to pay. Expenses are also known as revenue expenditure. The revenue expenditure for the year must be listed in the profit and loss account.

5. Examples of expenses • Rent • Rates • Wages and salaries • Heating • Lighting • Cleaning • Insurance • Repairs • Telephone • Discount allowed • Depreciation on fixed assets • Legal fees

6. Example Trading account and profit and loss account £ £ Sales 130,000 Opening stock 8,000 Purchases 60,000 68,000 Closing stock 3,000 Cost of sales 65,000 Gross profit 65,000 Wages 20,000 Rent 5,000 Heating 1,000 General expenses 6,00032,000 Net profit 63,000

7. Discount allowed A business may allow a discount to a debtor for early payment of the amount owed by the debtor. A business may use discount allowed to improve the cash flow position. Discount allowed will reduce the profit of the business. It is an expense and must be shown in the profit and loss account.

8. Discount received A business may receive a discount from trade suppliers for early payment of the account. Discount received will increase the net profit. Discount received is added to the gross profit in the trading account and profit and loss account.

9. Example: discounts Profit and loss account £ £ Gross profit 80,000 Discount received 3,000 83,000 Wages 25,000 General expenses 10,000 Discount allowed 1,000 36,000 Net profit 47,000

10. Carriage inwards and outwards Carriage inwards is added to purchases in the trading account. Carriage outwards is shown as an expense in the profit and loss account. A business may pay the cost of delivering to customers. This is an expense of the business.

11. Drawings Drawings are a reduction in capital and must be shown in the balance sheet. Cash drawings will reduce the asset of cash and not affect the profit. Stock drawings will reduce the purchases in the trading account. The amount of drawings made by the owner is not an expense of the business and must not be shown in the profit and loss account.

12. Key points The account layout must be learned because this topic will be covered in much more detail. Always use a ruler to underline headings and accounts and present your work neatly. Never enter fixed assets in the profit and loss account. This is capital expenditure and will be shown in the balance sheet. It is very important to practise the trading account and profit and loss account. Try Tasks 1–3.