Final Accounts of Sole Traders
What the domain tests
You must prepare a trading account, profit and loss account and balance sheet from a trial balance, adjusting for accruals, prepayments, depreciation, bad debts, provisions and inventory. The exam rewards correct structure and correct treatment of adjustments.
Structure and rules
Trading account: sales less returns inwards gives net sales. Cost of sales is opening inventory + purchases + carriage inwards − returns outwards − closing inventory. Gross profit is net sales less cost of sales.
Profit and loss account: gross profit plus other income less expenses. Depreciation, bad debts, increase in the provision for doubtful debts, discount allowed and accruals are expenses. Carriage outwards, administration and selling costs are expenses. Drawings are not an expense.
Balance sheet: non-current assets at net book value; current assets include inventory, receivables net of provision, prepayments and bank/cash; current liabilities include payables, accruals and bank overdraft; long-term liabilities; capital is opening capital + net profit − drawings.
Worked example
Sales 2,000,000; returns inwards 100,000; opening inventory 200,000; purchases 1,300,000; returns outwards 50,000; carriage inwards 30,000; closing inventory 250,000. Expenses are 300,000, depreciation 80,000 and bad debts 20,000.
- Net sales = 1,900,000.
- Cost of sales = 200,000 + 1,300,000 + 30,000 − 50,000 − 250,000 = 1,230,000.
- Gross profit = 670,000.
- Net profit = 670,000 − 300,000 − 80,000 − 20,000 = 270,000. Closing inventory appears in the trading account and as a current asset, never twice in the same account.
Traps
Carriage inwards is part of cost of sales; carriage outwards is a distribution expense. Goods taken by the owner are Dr Drawings; Cr Purchases. An increase in the provision for doubtful debts is an expense, but a decrease is income. Accrued expenses are current liabilities and prepaid expenses are current assets. Do not deduct drawings before calculating net profit.