Trading and Profit and Loss Account

Before creating a balance sheet, it's essential for a business to compile a Trading and profit and loss account. These accounts serve the purpose of revealing both the gross and net profits achieved by a business. Their main objective is to assess the revenue gained or the losses faced throughout the accounting duration.

Trading and Profit & Loss account are two different types of accounts that they are formed with in the general ledger accounts.

1. Trading Account
2. Profit and Loss Account

The trading account constitutes the first segment of this statement, aimed at calculating the gross profit earned by the business. Meanwhile, the profit and loss account forms the subsequent part of the statement, serving to determine the net profit of the business.

1. Trading Account

The trading account is crucial for figuring out whether a business made a gross profit or a gross loss from its trading activities, which primarily involve buying and selling goods. It's particularly handy for businesses engaged in trading operations. This account simplifies the process of determining the overall gross profit or loss of the business. The calculated amount serves as a measure of how effectively the business is conducting its buying and selling activities. Formula for calculating gross profit:

*** Gross profit = Net sales - Cost of goods sold ***
Where.,
*** Net sales = Gross sales of the business - sales returns, discounts and allowances. ***

The trading account focuses solely on direct expenses and revenues when calculating gross profit. Its primary purpose is to gauge the profit made by the business from buying goods. On the debit side, you'll find items like purchases, opening stock, and direct expenses, while the credit side includes closing stock and sales.

2. Profit and Loss Account

The profit and loss account reveals the net profit or loss of the business for a specific accounting period. It's created to determine the overall profit or loss experienced by a business during that period. The profit and loss account typically begins by recording the gross loss on the debit side or gross profit on the credit side, which is carried over from the trading account. Besides direct expenses, businesses often face various other expenses. These expenses are subtracted from the profit or added to the gross loss. The final figure obtained represents the net profit or loss.

1. Sales Tax
2. Maintenance
3. Depreciation
4. Administrative Expense
5. Selling and Distribution Expense
6. Provisions
7. Freight and carriage on sales
8. Wages and Salaries

In the Profit and Loss Account, items such as business expenses like rent, salaries, and utilities typically appear on the debit side. On the other hand, sources of income such as commission received, discount received, and profits from the sale of assets usually appear on the credit side. To determine the net profit, you subtract business expenses from the gross profit and then add any other incomes earned.

***Net profit = Gross profit - Expenses + Other income ***

Difference between Trading Account and Profit and Loss Account

1.A trading account serves as a record of all your trades, often referred to as a trading journal or trading log. Conversely, a profit and loss account, also known as an income statement, is where all revenues and expenses are documented.

2.A trading account is an account provided by a broker, enabling investors to trade securities on the stock exchange without needing a Demat account. It's sometimes called a margin account because it offers leverage to investors through borrowed funds.

3.A profit and loss account displays the total revenue earned and expenses incurred during an accounting period, indicating whether a company made a profit or incurred a loss. The net outcome is termed profit before tax (PBT).

Sincerely,
The Novai Tek India Pvt Ltd Team