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CHAPTER 13

PROFIT LOSS ACCOUNT

Trading Account results in the gross profit/loss made by a businessman on purchasing and selling of goods. It does not take into consideration the other operating expenses incurred by him during the course of running the business. Besides this, a business may have other sources of income. In order to ascertain the true profit or loss which the business has made during a particular period, it is necessary that all such expenses and incomes should be considered.

Profit and Loss Account considers all such expenses and incomes and gives the net profit made or net loss suffered by a business during a particular period. All the indirect revenue expenses and losses are shown on the debit side of the Profit and Loss Account, whereas all indirect revenue incomes are shown on the credit side of the Profit and Loss Account.

The Profit and Loss Account starts with gross profit on the credit side. If there is gross loss, it will be written on the debit side. After that all those expenses and losses, which have not been entered in the Trading Account, will be written on the debit side of Profit and Loss Account. Incomes and gains, other than sales, will be written on the credit side.

If we understand word ‘expenses’ properly, there should be no difficulty in distinguishing between items that will be debited to the Profit and Loss Account and those that will be shown as Assets in the balance sheet. Further, it may be noted that the expenses which are personal in nature will not be charged to Profit and Loss A/c. Only those revenue expenses and losses which are related to the current year, are debited to Profit and Loss Account.

Profit and Loss Account measures net income by matching revenues and expenses according to the accounting principles. Net income is the difference between total revenues and total expenses. In this connection, we must remember that all the expenses, for the period are to be debited to this account - whether paid or not.

Important terms in Profit and Loss account

Gross Profit

This is the balance of the Trading Account transferred to the Profit and Loss Account. If the Trading Account shows a gross loss, it will appear on the debit side.

Selling and Distribution Expenses

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These expenses are incurred for promoting sales and distribution of sold goods. Example of such expenses are godown rent, carriage outwards, advertisement, cost of after sales service, selling agents commission, etc.

Management Expenses

These are the expenses incurred for carrying out the day-to-day administration of a business.

Expenses, under this head, include office salaries, office rent and lighting, printing and stationery and telegrams, telephone charges, etc.

Maintenance Expenses

These expenses are incurred for maintaining the fixed assets of the administrative office in a good condition. They include repairs and renewals, etc.

Financial Expenses

These expenses are incurred for arranging finance necessary for running the business. These include interest on loans, discount on bills, etc.

Abnormal Losses

There are some abnormal losses that may occur during the accounting period. All types of abnormal losses are treated as extra ordinary expenses and debited to Profit and Loss Account.

Examples are stock lost by fire and not covered by insurance, loss on sale of fixed assets, etc.

Other Income

During the course of the business, other than income from the sale of goods, the business may have some other income of financial nature. The examples are discount or commission received.

Non-trading Income

Such incomes include interest on bank deposits, loans to employees and investment in debentures of companies. Similarly, dividend on investment in shares of companies and units of mutual funds are also known as non-trading incomes and shown in Profit and Loss Account.

Abnormal Gains

There may be capital gains arising during the course of the year, e.g., profit arising out of sale of a fixed asset. Such profit is shown as a separate income on the credit side of the Profit and Loss Account.

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Profit and Loss Account for the year ended……

Particulars | Particulars

The specimen shown in the PDF is arranged as a two-sided Profit and Loss Account.

Debit Side

To Gross Loss b/d

Management expenses

To Salaries (administrative)

To Office rent, rates and taxes

To Printing and stationery

To Telephone charges

To Postage and telegrams

To Insurance

To Audit Fees

To Legal Charges

To Electricity Charges

Credit Side

By Gross Profit b/d

Other Income

By Discount Received

By Commission Received

Non-trading Income

By Bank Interest

By Rent of property let-out

By Dividend from shares

Abnormal Gains

By Profit on sale of machinery

By Profit on sale of investment

The PDF presents these items in a formal Profit and Loss Account table, with the debit-side expenses on the left and the credit-side incomes/gains on the right.

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Note:

Gross loss appears in the debit side of the Profit and Loss Account at the top; while Gross Profit on the credit side.

Net loss appears in the credit side of the Profit and Loss Account; while Net profit on debit side as balancing figures.

CLOSING ENTRIES

The entries that have to be made in the journal for preparing the Trading and the Profit and Loss Account that is for transferring the various accounts to these two accounts are known as closing entries.

Maintenance expenses

To Repairs & renewals

To Depreciation on:

Office Equipment

Office Furniture

Office Buildings

Selling and Distribution expenses

To Salaries (selling staff)

To Advertisement

To Godown rent

To Carriage Outward

To Bad Debts

To Provision for bad debts

To Selling commission

Financial expenses

To Bank charges

To Interest on loans

To Discount on bills

To discount allowed to customers

Abnormal Losses

To Loss on sale of machinery

To Loss on sale of investment

To loss by fire

To Net Profit (transferred to Capital A/c)

Credit side

By Net Loss (transferred to capital A/c)

The page contains a large two-sided closing/Profit and Loss Account specimen, with the various indirect expenses and losses on the debit side and Net Loss (transferred to capital A/c) on the credit side.

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Adjustments

The fundamental principle of accounting is that the period to which various items of income and expenditure pertain should be co-extensive with the period of account.

As such before Final Accounts are drawn up. It must be ensured that the accounts, which require adjustment on this consideration, have been adjusted, both by providing for expense accrued and including income outstanding and excluding expenses the benefit of which extends beyond the year of account as well as the income received in advance.

The entries that must be passed for adjusting various accounts of income and expenditure are shown below:

(1) Expenses accrued and accruing, e.g., Rent, Interest, Local Taxes, Wages etc.

Appropriate Expense Account Dr.

To Expenses Accrued/outstanding Account

For Example, if Rent Paid is 50,000 for a year and Outstanding Rent is 14,000. It will be treated as follows: -

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The page continues the worked adjustment examples.

Example 1 — Outstanding Rent

Profit/Loss Account

Balance Sheet

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(2) Income accrued and accruing

e.g., Interest on Government loans, Discounts on bill, Professional fees, Rents and Premiums on leases, etc.

Interest/Fees etc. Accruing Account Dr.

To Appropriate Income Account

Suppose interest received is 1,50,000 and accrued interest for the same period is 45,000. It will be treated as follows:-

Profit/Loss Account

Balance Sheet

YouTube Link for Lecture:

Channel Name:

Lateef’s Commerce Academy

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Visual elements included in the PDF

The important visual/table elements are:

Page 54: A complete Profit and Loss Account specimen, showing:

• Gross Loss / Gross Profit

• Management expenses

• Other Income

• Non-trading Income

• Abnormal Gains

Page 55: A detailed closing-entry Profit and Loss Account layout, showing Maintenance Expenses, Selling and Distribution Expenses, Financial Expenses, Abnormal Losses, Net Profit and Net Loss.

Page 57: Two worked adjustment illustrations:

1. Outstanding Rent: ₹50,000 rent + ₹14,000 outstanding rent = ₹64,000, with ₹14,000 shown as a liability.

2. Accrued Interest: ₹1,50,000 interest + ₹45,000 accrued interest = ₹1,95,000, with ₹45,000 shown as an asset.