PROFIT AND LOSS ACCOUNT
Profit and Loss Account is an account prepared by the trading organizations to know about the net profit or net loss of the firm. This account records all the incomes on credit side and expenses on debit side of a particular year. This account is prepared at the end of the year.
ACCORDING TO RN CARTER
“A profit and loss account is an account into which all gains and losses are collected. If the gains exceed the losses, the excess is the net profit, if the losses are greater than the gains the difference is the net loss.”
ACCORDING TO JR BATLIBOI
“The function of the profit and loss account is to enable a trader to ascertain the net profit or net loss resulting from business transactions during a given period.”
This account is prepared after the preparation of Trading Account and starts with the balance i.e. Gross Profit or Gross Loss of Trading Account.
FEATURES OF PROFIT AND LOSS ACCOUNT
The following are the features this account:
NATURE OF ACCOUNT
It is a nominal account. All the expenses are recorded on the debit side and all the incomes are recorded on the credit side. The rule applies to this account is:
“DEBIT ALL EXPENSES AND LOSSES
CREDIT ALL INCOEMES AND GAINS”
PREPARED ON ACCRUAL BASIS
This account is prepared on the accrual basis. It means all the items relating to the current year are recorded in this account. This leads to adjustments of the accrued income, income received in advance, outstanding expenses, prepaid expenses. No item related to past or next year is recorded in this account.
ITEMS ON DEBIT SIDE
This account records all the expenses on the debit side. The items on the debit side are divided into 5 main heads:
• Office and Administrative expenses– office rent, rates and taxes, postage, salaries etc.
• Financial Expenses– discount allowed, bank charges, interest on loan, interest on capital etc.
• Repairs and Depreciation– Depreciation and Repairs.
• Selling and Distribution Expenses– Advertisement, travelling expenses, carriage outward, commission etc.
• Losses and General Expenses– Loss on sale of fixed assets, general expenses, charity, trade expenses etc.
ITEMS ON CREDIT SIDE
This account records all the incomes of the current year on the credit side like discount received, commission received, dividend received, apprentice premium, miscellaneous receipts etc.
TIME OF PREPARATION
It is prepared at the end of the year i.e. as at 31st March, 20__. It is prepared after preparing Profit and Loss Account and before preparing Balance Sheet.
It shows the result of Net Profit or Net Loss by comparing the both sides Debit and Credit. Increase of debit over credit results in Net Loss and increase of credit over debit results in Net Profit.
Debit< Credit= Net Profit
Debit> Credit= Net Loss
BASIS OF PREPARATION
Profit and Loss Account is prepared on the basis of Trading Account balance. The balance of trading account i.e. Gross Profit or Gross Loss serves as starting point of preparation of Profit and Loss Account.
IMPORTANCE/ NEED/ ADVANTAGES OF PROFIT AND LOSS ACCOUNT
KNOWLEDGE OF NET PROFIT/LOSS
The profit and loss account is prepared to find out the true net profit or net loss of the firm for a current year. The net profit or net loss is transferred to the capital item in the balance sheet. Net profit is added to capital whereas the net loss is deducted out of the capital on the liabilities side of balance sheet.
COMPARISON OF PROFITS/ TRENDS OF PROFITS
The account prepared for the current year is compared with the profit and loss account of the past years to find out the trend of the profit or losses incurred. The management analyses the trends of profits and plan accordingly for the future.
CONTROL OVER EXPENSES
This account also helps in comparing the expenses of the current year with the past years. The increase or decrease in particular kind of expenses can be ascertained and step will be taken to control the expenses of the firm.
PROVIDE PROFITABILITY POSITION OF THE CURRENT YEAR
As this account is prepared on the accrual basis and all the adjustments regarding accrued incomes, income received in advance, outstanding expenses and prepaid expenses are made in this account. So, this account shows a fair view of the profitability position of the current year.
FORECAST FUTURE PERFORMANCE
On the basis of the expenses, incomes, profits or losses disclosed of the current year, future performance can be forecasted easily.
HELPS IN DETERMINING TAX LIABILITY
The taxes are always charged on the amount of income or profits earned. The profit of the firms is ascertained by preparing this account. So this account helps in determining the tax liability of the firm.
HELPFUL IN PREPARATION OF BALANCE SHEET
The net profit or net loss disclosed by this account is posted to the balance sheet on the liabilities side. The net profit is added to the capital and net loss is deducted out of the capital. In this way, it helps in preparation of balance sheet.