3. Preparing the statement of profit or loss

Question 1

Outline the steps taken to prepare the statement of profit or loss.

Answer 1

1. Create a new ledger account in the nominal ledger, called the profit and loss ledger account. All balances relating to the statement of profit or loss, both income and expense will be transferred to this account. The profit and loss ledger account is part of the double entry system, so the basic rule of double entry still applies: every debit must have an equal and opposite credit entry.
2. Once a profit and loss ledger account has been created, the next step is to identify the ledger accounts which relate to income and expenses.
3. Next the balances of relevant accounts are transferred to the profit and loss ledger account.
4. When accounts are transferred or ‘cleared’ to the profit and loss ledger account (P/L a/c) we double underline both sides of the ledger account we are transferring from to show that the balance is now zero.

Question 2

How do you transfer a balance from an income o expense account to the profit and loss ledger account?

Answer 2

For example, the balance on the purchases account is £5000 debit.

To transfer this balance, we enter £5,000 on the credit side of the purchases account, and £5,000 on the debit side of the profit and loss ledger account.

Now the balance on the purchases account has been moved to the profit and loss ledger account. There is a nil balance remaining on the purchases account as no amounts are carried down or brough down in respect of income or expenses.

Question 3

How do you calculate profit from the profit and loss ledger account?

Answer 3

The balance on the profit and loss ledger account is the profit for the period.