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FINANCIAL LITERACY •  23 JULY 2021 • 3 MIN READ

What’s included in a profit and loss account?

What’s included in a profit and loss account?

We’re about to break down exactly what makes up your profit and loss account.

But first, a note.

If you’re using automated accounting software, you may want to double-check that you’re correctly classing each expense as direct costs (which impact gross profit) and operating/overhead expenses. You can find instructions on how to do it in Xero, here.

Income

Also known as sales or revenue, income can come from:

  • Selling goods
  • Providing services
  • Clients reimbursing certain expenses
  • Earning interest

Cost of sales / Direct costs

These expenses relate directly to the sale of goods or services*.

  • Opening stock
  • Purchases of goods (products to sell)
  • Purchase of raw materials (for processing, then selling)
  • Purchases of materials (materials used in the construction industry)
  • Freight and packaging – bringing materials and goods to you, and delivering to customers
  • Commission paid to salespeople
  • Contractors and subcontractors
  • Maintenance of factory plant and machinery (the more units produced, the more maintenance is required)
  • Wages for factory workers (if they’re based on units produced, rather than per hour)
  • Closing stock

* Not all businesses will have a cost of sales section. It’s usually only applicable when you’re selling goods or performing work that involves raw materials (e.g. construction). Those in the service industry are likely to exclude this section and only have expenses of an operating nature.

Gross profit

After deducting any costs of sales from income, you have the gross profit. These should be enough to cover operating expenses.

Operating expenses

These are costs that generally remain consistent, no matter the level of sales.

  • Advertising
  • Bank fees
  • Computer and IT expenses
  • Insurance
  • Interest
  • Office rent
  • Power
  • Printing, postage, and stationery
  • Professional fees (legal, accounting, consulting)
  • Telephone and internet
  • Salaries
  • Staff expenses

Non-cash expenses

  • Depreciation of property, plant, and equipment
  • Gains or losses on the sale of assets
  • Certain accountant adjustments, which may include
    • Reimbursing a director or shareholder for using part of the home as an office
    • Adjusting for any private portion of business expenses

Non-deductible expenses

These are business expenses that can’t be deducted from taxable income:

  • A portion of entertainment expenses
  • Certain legal expenses
  • Fines and penalties
  • Income tax

Net profit or loss for the year

The non-deductible expenses cannot be claimed as tax deductions, but they are still business expenses. After taking those into account, we arrive at the net profit or loss.

Our next article takes a look at interpreting the profit and loss account

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