How to Prepare an Income Statement

What is an Income Statement?

It’s a part of a company’s financial statement that focuses on showcasing the company’s profit or loss over a fixed period. The other popular name for preparing a company’s income statement is “Profit & Loss Account,” or is well-known as a statement of Profit and Loss as per the revised Schedule VI of the Companies Act, 2013. It is even considered by Mobile App Development companies. In this article, you will learn about how to prepare an income statement.

Income Statement Format

The format for preparing an Income Statement is as follows:

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Balance Sheet vs Income Statement

There are a few differences between the income statement and the balance sheet. They are as follows:

• Timing: The income statement reports the financial activity for a specific reporting period, often for a month, quarter, or year. The balance sheet reports the financial activity at a particular point of time, usually for a snapshot view of a business’s finances.
• Information Reported: The income statement would report on a business’s revenues and expenses with ultimately the amount of profit or loss are generated. But, a balance sheet reports on the company’s assets, liabilities, and equity.
• Significance: The income statement is used for reporting the overall results of the business’ financial performance or how much income it has generated. The balance sheet is used for analyzing if the company has enough liquid assets to cover its financial obligations.

How to Prepare an Income Statement?

To prepare an income statement, you must generate a trial balance report, calculate the revenue, determine the cost of goods sold, and calculate the gross margin. Also, include the operating expenses, calculate your income, including all the income taxes, calculate the net income, and finalize the income statement with your business details and the reporting period.

To prepare an income statement, small businesses must analyze and report their revenues, expenses, and resulting profits and losses, for a particular reporting period. The income statement, also known as a profit or loss statement, is one of the businesses’ significant financial statements, along with the cash flow statement and balance sheet. The income statements show how much profit a business generates during a specific reporting period and the total expenses incurred while earning revenue.

To write the income statement and report the profits that your small business generated, follow the below-mentioned steps:

Pick a Reporting Period

The first step to prepare an income statement is to choose the reporting period that your report will cover. Businesses report their income statement on an annual, monthly, or quarterly basis. Publicly traded companies need to prepare financial statements on an annual or quarterly basis, but small businesses are not so heavily regulated in their reporting. Creating monthly income statements helps you identify trends in the profits and expenditures over time. It can help you make business decisions for increasing the company’s efficiency and profits.

Generate a Trial-Balance Report

To generate an income statement for the business, you need to print out a standard trial balance report, and it’s readily available through cloud-based accounting software. Trial balance reports are the internal documents that list all the accounts’ end balances in the general ledger for a particular reporting period. It gives you all the end balance figures that you need to create an income statement.

Calculate Your Revenue

Now, you need to calculate the business‘ total sales revenue for the reporting period. It includes all the money you earned for your services during the reporting period, even if the payments are yet to be received. Add all the revenue line items from the trial balance report and enter the total amount in your revenue line item of the income statement.

Determine the Cost of Goods Sold

The cost of goods sold includes the direct labor, materials, and overhead expenses incurred to provide your goods or services. Add all your cost of goods sold line items on the trial balance report and list the total cost of goods sold on your income statement, just below the revenue line item.

Calculate the Gross Margin

Subtract the total cost of goods from the total revenue on your income statement. It will give you the gross margin, or the gross amount earned from the sale of goods and services.

Include Operating Expenses

Add all the operating expenses listed on the trial balance report. Enter your total amount into the income statement as the administrative and selling expenses line item. It’s located below the gross margin line.

Calculate Your Income

Subtract the total administrative and selling expenses from the gross margin. It will give you the pre-tax income. Enter the received amount at the bottom of the income statement.

Include Income Taxes

To calculate income tax, multiply the applicable state tax rate by the pre-tax income figure. Add it to the income statement below the pre-tax income figure.

Calculate the Net Income

To determine the business’s net income, subtract the income tax from your pre-tax income figure. Enter your figure into the final line item of the income statement.

Finalize the Income Statement

To finalize the income statement, add a header to the report identifying it as the income statement. Add the business details and the reporting period covered by your income statement.

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Income Statement Example

The below example will give you a better understanding of what’s reported on an income statement, its format, and how you should lay the data:

Conclusion

The idea of preparing an income statement helps the investors to gauge the profitability of a company and enable them to make well-informed investment decisions.

So, to better understand the income statement, you must have a clear understanding of the income statement’s preparation.

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