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Preparing Trading & Profit & Loss account :: To derive Information relating to Profits

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... From Page 2

Ascertaining the how much of Profit/Loss

 
 

• Profit = Total (Incomes + Gains) − Total (Expenses + Losses)

Using this relation, a positive profit figure indicates a profit and a negative profit figure indicates a loss.

• Math of Ascertainment of Profit/Loss

Nominal accounts are related to incomes/gains and expenses/losses. Thus the information relating to the aspects that would define the profit or loss made by the organisation is contained in the Nominal accounts.

» Nominal Accounts with Debit balances

Those ledger accounts which have a debit balance in them represent expenses or losses

The total (sum) of balances in all the nominal (ledger) accounts with a debit balance indicates the total (expense + losses).

» Nominal Accounts with Credit balances

Those ledger accounts which have a credit balance in them represent incomes or gains.

The total (sum) of balances in all the nominal (ledger) accounts with a credit balance indicates the total (incomes + gains).

If the total of (expense + losses) and (incomes + gains) are set off, we would be able to arrive at the profit or loss made.

Thus the relation to ascertain the profit or loss can be written as

Profit = Sum of balances in Nominal accounts with a Credit Balance
− Sum of balances in Nominal accounts with a Debit Balance .

final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,adjustments

Preparation of Trading and Profit and Loss account (a/c)

 
 
The "Trading and Profit & Loss a/c" is a ledger account. Like all ledger accounts, the postings in this ledger account also flow from the journal. "No Journal No Ledger".

• Transactions making up the Trading and Profit & Loss a/c

The transactions relating to the journal entries that would go into the "Trading and Profit & Loss a/c" are not ones that are take place in the ordinary course of business. These are transactions that are specifically meant to create this "Trading and Profit & Loss a/c".

Consider the above formula for ascertaining the profit or loss,

Profit = Sum of balances in Nominal accounts with a Credit Balance
− Sum of balances in Nominal accounts with a Debit Balance .

» For Ascertaining the sum of balances in Nominal Accounts with a Debit Balance

This is done by transferring the balances in the nominal accounts with a debit balance, to an account by name "Trading and Profit & Loss a/c".

Transferring a debit balance from one account to a second results in the second account being debited and the first account being credited.

Therefore the Journal Entry would be

Journal in the books of M/s __ for the period from ____ to _____
Date V/R
No.
L/F Debit Amount
(in Rs)
Credit Amount
(in Rs)
March 31st Dr
xxxx
xxxx
[For the debit balances in the nominal accounts transferred to the "Trading and Profit & Loss a/c" for the purpose of ascertaining the profits on the last day of the accounting period ]

» For Ascertaining the sum of balances in Nominal Accounts with a Credit Balance

This is done by transferring the balances in the nominal accounts with a credit balance to an account by name "Trading and Profit & Loss a/c".

Transferring a credit balance from one account to a second results in the second account being credited and the first account being debited.

Therefore the Journal Entry would be

Journal in the books of M/s __ for the period from ____ to _____
Date V/R
No.
L/F Debit Amount
(in Rs)
Credit Amount
(in Rs)
March 31st Dr
xxxx
xxxx
[For the credit balances in the nominal accounts transferred on the last day of the accounting period to the "Trading and Profit & Loss a/c" for the purpose of ascertaining the profits.]

• Trading and Profit and Loss Account (a/c)

Thus the "Trading and Profit & Loss a/c" would appear as follows

DrTrading and Profit & Loss a/cCr
Date Particulars J/F Amount
(in Rs)
Date Particulars J/F Amount
(in Rs)
31/03/06
31/03/06
31/03/06
31/03/06
31/03/06
To Nominal a/c 1 [Dr]
To Nominal a/c 2 [Dr]
To Nominal a/c 3 [Dr]
...
...




xxx
xxx
xxx
xx
xxx
31/03/06
31/03/06
31/03/06
31/03/06
31/03/06
By Nominal a/c 1 [Cr]
By Nominal a/c 2 [Cr]
...
...

xxx
xxx
xxx
xxx
xxx
  sub-total   3,24,000   sub-total   5,80,000
31/03/06 To Bal (Profit) 2,56,000        
  Total   5,80,000   Total   5,80,000

Thus the "Trading and Profit & Loss a/c", is nothing but a consolidated account formed by transferring the balances in the nominal accounts.

Nature of Trading and Profit & Loss a/c

 
 
Since the "Trading and Profit & Loss a/c" is prepared by transferring the ledger account balances in all the nominal accounts in the books of accounts it is appropriate to consider it to be a nominal account.

Any Ledger account prepared to ascertain the profits or losses out of a set of transactions is a nominal account. Thus, "Trading and Profit & Loss a/c" is a nominal account.

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When are the entries recorded?

 
 
Accounting period is the period for which we wish to ascertain the profits or losses. The "Trading and Profit & Loss a/c" is prepared at the end of the accounting period.

Say if the accounting period is a year from 1st April 2005 to 31st March 2006, the journal entry for transferring the amounts to the "Trading and Profit & Loss a/c" is recorded at the end of the accounting period i.e. on 31st March 2006.

What happens to the Nominal a/c's?

 
 
To ascertain the profits, we transfer the balances in the Nominal accounts (with debit balances as well as credit balances) to the "Trading and Profit & Loss a/c", thus creating that ledger account.

• Nil Balance

When the total balance in a nominal account is transferred to the "Trading and Profit & Loss a/c", its balance becomes Nil.

DrRent Paid a/cCr
Date Particulars J/F Amount
(in Rs)
Date Particulars J/F Amount
(in Rs)
01/04/05
01/05/05
..
..
01/03/06
To Cash a/c
To Cash a/c
..
..
To Cash a/c




8,000
8,000
..
..
8,000
       
  sub-total   96,000   sub-total   96,000
        31/03/06 By Trdg and P/L a/c 96,000
  Total   96,000   Total   96,000
               

• Closing the Nominal Account at the end of the accounting period

The act of transferring the balance in a nominal account to the Trading and Profit and Loss Account and thereby making its balance Nil is identified as Closing the Nominal Account at the end of the accounting period.

All the nominal accounts are closed at the end of the accounting period by transfer to the "Trading and Profit and Loss Account.

• How do Nominal a/c's appear in every accounting period if they are closed

The nominal accounts are closed at the end of the accounting period. But we see the same nominal accounts being used in accounting in all the accounting periods. Say, the "Rent Paid a/c" would appear in the accounting books in all the accounting periods.

This is for the reason that all the nominal accounts are closed at the end of the accounting period and are opened afresh at the beginning of the next accounting period for being used in that accounting period.

Therefore, the "Rent Paid a/c" appearing in the books in a particular accounting period is different from the "Rent Paid a/c" appearing in the same books in any other accounting period.

All the nominal accounts are opened anew at the beginning of the accounting period.

Author Credit : The Edifier ... Continued Page 4

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