Financial Accounting

Closing entries in Profit and Loss Account

We have already seen the entries required for preparing the Trading Account and for transferring the gross profit to the Profit and Loss Account. Now to complete the Profit and Loss A/c, the undermentioned entries will be necessary.

Closing entries in Profit and Loss Account

(a) For items to be debited to the Profit and Loss Account -here profit and loss account will be debited and respective expense and losses will be credited. For ex:

Profit and Loss A/c                        Dr.

To Salaries A/c

To Rent A/c

To Interest Account

To Other Expenses Account

(b) Items to be credited to profit and loss account – Here, items representing incomes and gains shall be credited to profit and loss account by debiting the particular income and crediting profit and loss account as follows:

Discount Received Account                         Dr.

Bad Debts Recovered Account                   Dr.

To Profit and Loss Account

(c) Transfer to Profit and Loss account to capital account – after items to be debited and credited has been transferred to profit and loss account. Next step is to find out the difference between the totals and transferring the net profit or net loss on capital account as follows:

  1. If the credit side is greater than the debit side, i.e. net profit, the entry will be:

Profit and Loss Account                   Dr.

To Capital Account

In the debit side is greater than the credit side, i.e. net loss, the entry will be:

Capital Account                                 Dr.

To Profit and Loss Account

ADJUSTMENTS

At the time of preparation of profit and loss account, there may be that some expenses are outstanding while few others are prepaid. In the profit and loss, account items only for the current year should be debited or credited as the case may be. We need to pass a few adjusting entries to eliminate the effect of outstanding or prepaid expenses or income.

Following entries are to be passed for adjustment:

(1) Expenses accrued and outstanding, e.g., Salaries, Wages, Taxes, Rent, etc.

Appropriate Expense Account        Dr.

To Expenses outstanding Account

(2) Income accrued and receivable, e.g., Interest on Bonds, Fees, Rents and Premiums on leases, etc.

Income Receivable Account                         Dr.

To Appropriate Income Account

(3) Carrying forward income received in advance, e.g., Subscription in the case of an NPO or fees in case of the professional person.

Particular Income Account              Dr.

To Income Received in Advance Account

(4) Carrying forward of payments made in advance, e.g., Telephone, Rent, Insurance, etc., amount whereof stand debited to an expense account.

Expenses Prepaid Account              Dr.

To Particular Expenses Account

(5) Adjustment of stock of materials at hand, e.g., Stationery, Material, Manufacturing Stores, etc., the cost of which already has been debited to an expense account.

The stock of Materials                             Dr.

To Particular Expenses Account

Note: Next year on the first-day entries No. (1) to (5) should be reversed

(6) Provision for Bad and Doubtful Debts:

Profit and Loss Account                   Dr.

To Provision for Bad and Doubtful Debts Account

Note: The accounts of the customers concerned shall not be effected until the amount is actually written off for which the entry is,

Bad Debts Account                           Dr.

To Customer’s A/c

This entry to be passed only if the actual bad debt has been written off; otherwise, entry (6) should also be reversed.

Illustration

On the basis of data given below prepare a profit and loss account for the year ending 31st December 2012

Gross Profit $ 4,20,000, Salaries $ 1,10,000, Discount (Cr.), $ 18,000, Discount (Dr.) $ 19,000, Bad Debts $ 17,000, Depreciation $ 65,000, Legal Charges $ 25,000, Consultancy Fees $ 32,000, Audit Fees $ 1,000, Electricity Charges $ 17,000, Telephone, Postage and Telegrams $ 12,000, Stationery $ 27,000, Interest paid on Loans $ 70,000.

Solution

Dr.                                                                         Profit and Loss A/c                                              Cr.

For the year ending 31st December 2012

Particulars$Particulars$
To Salaries110000By Gross Profit420000
To Legal Expenses25000By Discount Received18000
To Consultancy Fees32000  
To Audit Fees1000  
To Electricity Charges17000  
To Telephone, Postage &

 

Telegrams

12000  
To Stationery   
To Depreciation27000  
To Discount Allowed65000  
To Bad Debts19000  
To Interest17000  
To Net Profit70000  
 43000  
 438000 438000
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