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In order to arrive at the balance sheet of a business, one needs to prepare the trading account and profit and loss account first. This account is prepared to arrive at the figure of revenue earned or loss incurred during a period.

Trading Account

A trading account helps in determining the gross profit or gross loss of a business concern, made strictly out of trading activities. Trading involves buying and selling activities. In the trading account, the cost of goods sold is subtracted from net sales for the period to calculate gross profit. Only direct revenue and direct expenses are considered in it. Trading account is prepared mainly to know the profitability of the goods bought by the businessman.

Profit and Loss Account

The profit and loss account is opened by recording the gross profit on the credit side or gross loss on the debit side.

For earning the net profit, a businessman has to incur many more expenses in addition to the direct expenses. Those expenses are deducted from profit or added to a gross loss and thus, the resultant figure will be net profit or a net loss.

Expenses included in the profit and loss account are Selling and distribution expenses, Freight & carriage on sales, Sales tax, Administrative Expenses, Financial Expenses, Maintenance, depreciation and Provisions and more. On the credit side, Discount received, Commission received, Profit on sale of assets and more appear.

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