How to Understand and Prepare an Income Statement

For most businesses an income statement is a very familiar document. It’s a great resource for assessing profit and loss and used for a variety of business needs such as taxes or applying for financial assistance. At its core what this statement is and how to read it should be fairly straight forward, however there are a number of factors that can make it seem more complicated.

 

What it is

In a nutshell a statement of income is a document that shows a business’s profit and loss margins. Profit can be calculated in a variety of ways depending on whether it’s counted as net income or gross profit. In the simplest terms it comes down to a business’s expenses subtracted from their profit. However, there can be various categories for factoring expenses such as, cost of goods, equipment expenses, inventory expenses and so on. An up-to-date statement should include these numbers as well.

 

Affected by Business Model

 

The model a business is based on can affect how it calculates profit and loss. The more complicated a company’s setup the more they will have to keep track of to avoid potentially mislabeling an expense. For example a retail company will need to calculate their cost of goods which is only the costs required for the goods to be ready for sale. Any costs after this, such as shipping to a customer, cannot be calculated as a cost of goods although it has the potential to be mislabeled as such. Part of generating a business’s income statement is to understand how the business is run, and which categories various transactions fall under.

 

Who Uses It

 

In most cases an income statement is used by a company’s tax preparer or accounting professional, as well as the business owner and other designated staff. The tax or accounting professional can recommend information that should be included so that they can accurately do their jobs. Otherwise the information in the document should be formatted so that it’s easily understandable, and makes sense to those in the company who will be reading it.

Once you understand how to read and understand your income statement you should be able to tell if things feel right when you look at it. If something seems off your accounting professional can help you look through the data for any discrepancies. Remember, this is a statement of your business’s profit and loss that you may want to keep up-to-date in case of future need.

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