Final Accounts of a Sole Trader: Trading, Profit and Loss and Balance Sheet
This domain tests the full preparation of final accounts for a sole trader, including year-end adjustments. Questions usually supply a trial balance with notes and ask for a trading account, a profit and loss account and a balance sheet, so the marks are won by correct format, correct adjustment of accruals, prepayments, depreciation, bad debts and provisions, and a balance sheet that actually balances.
Trading account
Net sales = sales − returns inwards. Cost of goods sold = opening stock + purchases − returns outwards + carriage inwards − closing stock. Gross profit = net sales − cost of goods sold.
Profit and loss account
Add other income such as discount received or rent receivable; deduct all expenses of the period whether paid or not. Net profit = gross profit + other income − expenses. The balance sheet then shows capital = opening capital + net profit − drawings.
Year-end adjustments
- Accrued expense: charged in the profit and loss account and shown as a current liability.
- Prepayment: carried as a current asset and not charged this period.
- Depreciation: an expense, with accumulated depreciation deducted from the asset.
- Bad debts: written off as an expense before any provision is calculated.
- Provision for doubtful debts: calculated on debtors remaining after bad debts; only the increase or decrease is charged or credited.
- Goods withdrawn by the owner: deducted from purchases and added to drawings.
Worked example
Sales 900,000; returns inwards 20,000; opening stock 80,000; purchases 560,000; returns outwards 10,000; carriage inwards 15,000; closing stock 95,000. Rent paid 55,000 with 5,000 owing; wages 90,000; depreciation 40,000; bad debts 12,000; provision 5% of remaining debtors of 200,000. Net sales 880,000. Cost of goods sold = 80,000 + 560,000 − 10,000 + 15,000 − 95,000 = 550,000. Gross profit 330,000. Expenses: rent 60,000 + wages 90,000 + depreciation 40,000 + bad debts 12,000 + provision 10,000 = 212,000. Net profit 118,000. The rent accrual of 5,000 appears as a current liability.
Traps
- Including carriage outwards in cost of goods sold; it is a selling expense.
- Ignoring an accrual because it has not been paid.
- Calculating the provision before writing off bad debts.
- Charging drawings as an expense.
- Adding the closing stock on the wrong side of the trading account.