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Preparation of Final Accounts of Sole Proprietor

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Last updated date: 16th May 2024
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Sole Proprietorship Balance Sheet

The sole proprietorship balance sheet depends on the bookkeeping condition that expresses that assets equal liabilities in addition to shareholder’s equity. In this manner, a balance sheet contains an organization's assets, liabilities and shareholder’s equity, which is alluded to as proprietors' equity on account of a sole proprietorship. An organization's balance sheet should consistently adjust, which means assets will consistently rise to liabilities in addition to owners’ equity, as clarified by Marianne M. Huey of Ohio State University. Business assets are found on the left half of the balance sheet while liabilities and shareholders’ equity show up on the correct side of the sole proprietorship balance sheet.

 

How to Prepare a Balance Sheet?

  • Compose a heading at the head of the balance sheet. Show the lawful name of the business. Compose the words "Balance sheet" underneath the lawful name of the business. Convey the specific date of the balance sheet. For instance, most organization's use December 31st as the date of the balance sheet since it is the latest day of the year.

  • Rundown every current asset. Start with current assets such as money, debt claims and stock. Assets ought to show up on the asset report in the request that they will be changed over into money. Include the absolute of every single current asset.

  • Record all long-term assets. Long-term assets are things that will be changed over into money in over one year. Long-term assets incorporate various items, for example, building, land, equipment and notes etc. Include all of the organization's drawn-out assets.

  • Include long-term assets with current assets. The outcome delivers the organization's complete assets.

  • Impart the current liabilities. Rundown the current liabilities on the correct side of the balance sheet. Current liabilities comprise things that will be expected inside a one-year time frame. Instances of current liabilities incorporate accounts payable, wages payable, taxes payable and unearned revenue. Include every single current liabilities.

  • Rundown the long-term liabilities. Long-term liabilities are commitments that will get due in over one year. Long term liabilities comprise of notes payable, mortgage payable and leases. Compute the complete long-term liabilities.

  • Include all your long-term liabilities with current liabilities. The result yields complete liabilities.

  • Show the measure of proprietors' equity. Proprietors' equity shows the measure of capital accounting for sole proprietor business. Compose held income underneath proprietors' equity. Held profit shows the measure of net gain reinvested in the business, which did not get issued. Include held profit with proprietors' equity to discover absolute proprietors' equity.

  • Include all out liabilities with all-out proprietors' equity. The organizations’ all-out liabilities and total proprietors' equity must rise to the total assets. Accordingly, the left side or assets side of the balance sheet should approach the correct side or proprietors' equity and liabilities side of the balance sheet. 

 

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Final Accounts of Sole Proprietorship

The final accounts for a sole dealer business are the Income Statement (Trading and Profit and Loss Account) and the Balance Sheet. The final accounts give an image of the money-related situation of the business. It shows whether or not your business has made a benefit or loss during the bookkeeping time frame and whether debts can be paid as they become due. 

 

After the trial balance gets completed, final accounts of the sole proprietorship are prepared. The last account of sole proprietorship business incorporates the Income Statement (Exchanging and Profit and Loss account) and the balance sheet. The trial balance is the synopsis of the parties in the entirety of all accounts of the sole proprietorship. A portion of these parities (those from the nominal accounts) influence the profit and are moved to the Income Statement; the real and personal accounts are moved to the Balance Sheet. The Income Statement and the Balance Sheet are set up toward the finish of each financial period to record how well the business worked during that budgetary period.

 

Sole Proprietorship

A sole proprietorship, also known as a sole trader, is an unincorporated business with a single owner who pays personal income tax on the profits of the company. Due to a lack of government regulation, a sole proprietorship is the simplest form of business to start or dissolve. Many single owners do business under their own names since it is not essential to register a distinct business or trade name. A single proprietorship, unlike a corporation, a limited liability company (LLC), or a limited liability partnership (LLP), does not have its own legal entity. 

 

Advantages and Disadvantages of Sole Proprietorship

Advantages - The key advantages of a sole proprietorship are the pass-through tax benefit, the simplicity of creation, and the inexpensive creation and maintenance expenses. You don't have to fill out a lot of paperwork in sole proprietorships, such as registering with your state. Depending on your state and type of company, you may need to get a license or permission. Because you do not need to obtain an employer identification number (EIN) from the IRS, the tax procedure is simplified. You will not be charged any fees for renewing your registration or any other fees involved with the procedure since you are not obliged to register with your state. A sole proprietorship does not require a business checking account, which is required by other business types. All of your funds may be handled through your own personal checking account.

 

Disadvantages - The disadvantages of a sole proprietorship include the owner's unlimited responsibility outside of the business and the difficulty in acquiring capital investment, particularly issuing shares and receiving bank loans or lines of credit. Banks like to do business with businesses that have a proven track record. Being a beginner with a modest balance sheet might make it difficult for banks to lend money to you. It might be challenging to attract equity from major investors since they favour more refined businesses. When a business is registered, it obtains various state protections. Because it is not registered, a sole proprietorship has no protection when it comes to responsibility. 

 

Start a Sole Proprietorship

To begin a single proprietorship, you just launch your company. It is not necessary to register with your state. It's best to come up with a business name first and then apply for a permit or license with your city and state if necessary. If you want to hire employees, you'll need an employee identification number (EIN), and if you want to sell taxable goods, you'll need to register with your state.

 

Income Statement

The Income Statement is one of the most essential financial statements for any company. It's used to figure out the following:

  1. What is the profit margin of a company?

  2. Comparing the outcomes received to the expected results.

 

The trading account and the profit and loss account are the two components of the income statement. The Trading account and the Profit and Loss account are the two components of the income statement. The trading account calculates the gross profit, which is the amount of profit before expenditures are deducted. The trading account is used to calculate the gross profit from sales. So, all accounts directly associated with buying and selling (trading) will be shifted to the trading account. The following accounts are directly related to trading:

  • Sales

  • Purchase

  • Wages

  • Sales Return

  • Purchases Return

  • Carriage Inwards

  • Opening & Closing stock

  • Power & Fuel

 

The gross profit is determined as follows:

Gross Profit = Net Sales – Cost of Goods Sold (COGS)

The trading account additionally calculates net sales, cost of goods sold (COGS), and cost of goods available for sale (COGAFS) in addition to gross profit:

Net Sales = Sales – Sales Return (Return Inwards)

The total sales amount after adjustments for sales returned to the business is known as net sales. The profit and loss account calculates your company's net profit. The balance of profit after income and costs are deducted is known as net profit. It's calculated as follows:

Net Profit = Gross profit + Revenue – expenses

The revenue and expenses charged to the Profit & loss account are those that are not primarily linked to trading and have more to do with the day-to-day operations of the firm. Some of these accounts include:

  • Rent

  • Telephone

  • Carriage outwards

  • Discount allowed

  • Discount received

  • Commission received

  • Commission paid

  • Salary

FAQs on Preparation of Final Accounts of Sole Proprietor

1. Why does a sole proprietor need to prepare final accounts?

A sole proprietor must prepare final accounts to keep track of all business activities of an organization by the end of every accounting period. The final account is made of trading accounts, profit and loss accounts and the balance sheet. The final accounts are used for: 

  1. Final accounts inform about the amount of profit and dividends earned by the sole proprietor and allow investors to make essential judgments on liquidity position. 

  1. The tax department requires the final accounts statement to ensure the business is paying taxes properly. 

  1. Final accounts provide figures of business performance to make informed decisions on expanding or developing business. 

  1. The employees must be aware of the profits made by the company to understand their contribution to the business and find methods to improve their work.

2. What is the sequence of preparing financial accounts? 

The financial account statements are prepared at the end of the financial year, in sequential order, because the information from one segment is carried forward to the next section. The sequence in preparing financial account statements are as follows: 

  1. Trial balance is the balance of all accounts at the end of the accounting period. 

  1. The adjusted trial balance is where adjusting entries are made to the trial balance. This includes wages payable, accumulated depreciation and prepaid office supplies. 

  1. The income statement is compiled from the adjusted trial balance. It includes the list of revenues and expenses for the business. At the bottom of the income statement is the total. 

  1. The balance sheet lists all the assets and liabilities of the business, such as cash, accounts receivable, property, equipment, office supplies and prepaid rent. 

  1. Statement of owner’s equity is a summary.

3. What is an Income Statement?

The income statement is the most important financial statements of any business. It is used to determine the profitability of a business and also to compare the results expected with the results actually received.

4. What is a Sole Proprietorship Account?

This is the simplest form of business where an individual can operate a business. He himself owns the business and is also liable for any debts. It can operate in the name of the owner or any other fictitious name which does not have any separate legal entity. This is a popular business as it can be formed with easy setup and minimal cost. It has to register with the name and the local licenses and is ready for the business to operate. This simplicity of formation is one of the key features which makes it easy for a business to plan and run.

5. What are the Two Sections of the Income Statement?

The Income statement is divided into two sections; one is the Trading Account and another, the Profit and Loss Account. The gross profit is calculated in the trading account where the amount of profit before the deduction of expenses are made. The revenue and expense not directly related to trading but more to the running of a business are charged to the profit and loss account. These two are closed off and transferred to Income Statement.