What is a profit and loss account?

What is a profit and loss statement (also known as a profit and loss sheet or profit and loss account)? Simply put, a profit and loss sheet details your business transactions, subtracting the total outgoings from the total income to give you a reading of how much, if any, profit you have made. It’s a similar concept to creating a cash flow forecast, though the timescales can differ.

What is the purpose of a profit and loss account? Unlike a balance sheet (take a look at our guide on what is a balance sheet, including a balance sheet example), a profit and loss sheet displays the financial health of your company for a period of time – a month, a quarter or a year. A balance sheet only represents your finances at a particular moment in time.

Do you need a profit and loss sheet? If your company is incorporated, you are required by law to produce a profit and loss sheet for each financial year. If your business is not trading as a limited company you don’t have to produce one, but the information you give to HMRC to work out your tax bill will amount to the same thing anyway.

Even if you’re not required to produce one, the P&L sheet is useful as a profit and loss account can be used to show owners, investors and shareholders how your business is doing at a glance.

How to keep a profit and loss account

Most accounting software tools will help you set out P&L and balance sheets in a straightforward way that’s easy to understand even for non-accountants. There are several manual bookkeeping systems available, which explain clearly how and where entries in each should be made.

Whether you use accounting software to create your P&L account, or you keep your accounts manually on paper or in a spreadsheet, the figures are usually set out in a similar way.

Your P&L account starts with the gross income (the total of all money that comes in from your sales to customers, assuming you are not VAT-registered), and takes away any discounts or allowances (for example, for early payment or bulk purchases), giving you your net income. From this, the P&L takes away cost of sales (for example, total unit costs, packaging and delivery), giving you your gross profit.

Then it takes away overheads (sometimes called fixed costs). These include the rent for your premises, marketing costs, wages, telephone, postage, and stationery etc. This leaves your operating profit.

You then add in any other income (for example, from machinery sales, rent from tenants in your office space etc) to give you your profit before tax.

Take the tax away from profit before tax and you have your net profit or loss.

You can find an example of a basic P&L sheet below.

Profit and loss account example

Some computerised accounting systems may lay the figures out differently, but when accounts are printed, they are generally shown in this format. Internal accounts show far more detail, while published accounts for limited companies or limited liability partnerships rarely show more than the information above.

Remember, it is usual to show the same set of figures for the previous period alongside the figures for this period. Also, instead of drawing a line under a sequence of figures to indicate that the following figure is a total, sometimes the total is shown in the column immediately to the right.

Each of the figures in the P&L account will be the total of many others and may come from several places in your accounts, depending on the type of business you run.