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Accounting · Final Accounts of Sole Proprietors

Trading Account and Gross Profit for CA Foundation

Updated 1 October 2026

A trading account shows the result of buying and selling goods for a year. Debit opening stock, net purchases and direct expenses. Credit net sales and closing stock. If credits exceed debits, the balance is gross profit; otherwise it is gross loss. It is then carried to the Profit and Loss Account.

Understand Trading Account and Gross Profit

A trading account is the first part of the final accounts of a sole proprietor. It answers one question: how much did you earn from trading in goods, before counting office and selling costs?

It matches the sales of the year with the cost of goods sold. Cost of goods sold is what you had at the start (opening stock), plus what you bought (purchases), plus costs of bringing goods to saleable condition (direct expenses), minus what is left unsold (closing stock).

Gross profit is the balancing figure. If net sales plus closing stock exceed opening stock, net purchases and direct expenses, you have a gross profit. If not, you have a gross loss. Gross profit is credited to the Profit and Loss Account (gross loss is debited there).

The key skill is classification. Direct expenses are costs linked to buying goods or making them ready for sale, such as carriage inwards, freight inwards, wages for production, import duty and factory power. Indirect expenses are costs of running the business, such as office rent, salaries, advertisement and carriage outwards. Indirect expenses go to the Profit and Loss Account, not the trading account.

The trading account is prepared for a period (usually one year). It uses the nominal account balances from the trial balance plus the adjustments.

Key rules to remember

Net sales
Net sales = Sales − Sales returns (returns inwards)
Show sales on the credit side net of returns inwards.
Net purchases
Net purchases = Purchases − Purchases returns (returns outwards)
Goods bought for resale only. Purchase of fixed assets is never included.
Cost of goods sold
Cost of goods sold = Opening stock + Net purchases + Direct expenses − Closing stock
Closing stock is valued at lower of cost and net realisable value.
Gross profit
Gross profit = Net sales − Cost of goods sold
A negative result is gross loss.
Account balancing rule
Debit side: Opening stock, Purchases, Direct expenses. Credit side: Sales, Closing stock
Gross profit is the balancing figure on the debit side; gross loss on the credit side.
Gross profit ratio
Gross profit ratio = (Gross profit ÷ Net sales) × 100
Useful as a check on your answer if the question gives a percentage.

How to solve Trading Account and Gross Profit questions

Use this method for any trading account question, whether it gives a trial balance or a list of balances.

  1. 1Read the whole question, including adjustments, before writing. Note closing stock, goods withdrawn by the owner, goods lost, and outstanding direct expenses.
  2. 2Classify each item: trading account (stock, purchases, sales, returns, direct expenses) or not (indirect expenses, assets, liabilities).
  3. 3Draw the account with Dr and Cr sides. Write By/To particulars properly.
  4. 4Debit side: opening stock, purchases less returns outwards, then direct expenses. Add outstanding direct expenses and deduct any prepaid amount.
  5. 5For goods withdrawn by the owner, goods given as samples or goods lost by fire, deduct their cost from purchases (credit the trading account). Debit Drawings, Advertisement or Loss by Fire/Insurance Claim respectively.
  6. 6Credit side: sales less returns inwards, then closing stock.
  7. 7Total both sides, find the balancing figure, and label it Gross Profit (c/d) or Gross Loss (c/d).
  8. 8Show workings for net purchases, net sales and adjusted expenses as working notes.

Quickest way: Cost of goods sold shortcut

When to use it: Use it when the question gives many figures and you want a fast answer or a check on your account.

  1. Compute net sales first.
  2. Compute cost of goods sold: opening stock + net purchases + direct expenses − closing stock.
  3. Subtract cost of goods sold from net sales to get gross profit.
  4. Then draw the account using the same figures, so the totals tie with your shortcut.
  5. Tick each trial balance item as you use it so you do not miss any direct expense.

Common mistakes in Trading Account and Gross Profit

  • Putting indirect expenses such as office rent or carriage outwards in the trading account.

    Students see the word expense and treat it as direct.

    Fix: Ask if the cost is needed to bring goods to saleable condition. If not, it goes to the Profit and Loss Account.

  • Ignoring returns inwards and returns outwards.

    Returns appear as small items in the trial balance.

    Fix: Deduct returns inwards from sales and returns outwards from purchases before putting figures in the account.

  • Writing closing stock on the debit side or leaving it out.

    Closing stock given as an adjustment is missed.

    Fix: If closing stock is given as an adjustment, credit it in the trading account and show it in the balance sheet. If closing stock appears in the trial balance, it has already been recorded (opening stock is closed off against the trading account), so show it only in the balance sheet, not on the credit side of the trading account again.

  • Not adjusting purchases for goods taken by the owner.

    Students treat it as a balance sheet matter only.

    Fix: Credit purchases (or deduct from purchases) at cost and debit drawings.

  • Forgetting outstanding or prepaid direct expenses.

    Adjustments are read after the account is drawn.

    Fix: Read adjustments first. Add outstanding and deduct prepaid direct expenses in the trading account.

  • Including purchase of fixed assets in purchases.

    The word purchase causes confusion.

    Fix: Only goods bought for resale or for production are purchases. Asset purchases are capital items shown in the balance sheet.

Worked examples

Example 1

From the following, prepare the trading account of Ravi for the year ended 31 March 2025 and find the gross profit: Opening stock ₹40,000; Purchases ₹3,20,000; Purchases returns ₹10,000; Sales ₹5,00,000; Sales returns ₹20,000; Carriage inwards ₹6,000; Wages ₹24,000; Office rent ₹30,000; Closing stock ₹50,000.

Show the solution
  1. Net purchases = 3,20,000 − 10,000 = ₹3,10,000.
  2. Net sales = 5,00,000 − 20,000 = ₹4,80,000.
  3. Direct expenses = carriage inwards 6,000 + wages 24,000 = ₹30,000. Office rent is indirect and is excluded.
  4. Debit side total before profit = 40,000 + 3,10,000 + 30,000 = ₹3,80,000.
  5. Credit side total = 4,80,000 + 50,000 = ₹5,30,000.
  6. Gross profit = 5,30,000 − 3,80,000 = ₹1,50,000.
  7. Check: cost of goods sold = 3,80,000 − 50,000 = 3,30,000. Net sales 4,80,000 − 3,30,000 = ₹1,50,000.

Answer: Gross profit is ₹1,50,000. Both sides of the trading account total ₹5,30,000.

Example 2

Meena's books show: Opening stock ₹60,000; Purchases ₹4,00,000; Sales ₹6,50,000; Wages ₹50,000; Freight inwards ₹15,000. Adjustments: (a) Closing stock ₹70,000. (b) Wages outstanding ₹5,000. (c) Goods costing ₹10,000 were taken by Meena for personal use. Find the gross profit.

Show the solution
  1. Adjusted purchases = 4,00,000 − 10,000 (goods withdrawn by the owner) = ₹3,90,000.
  2. Adjusted wages = 50,000 + 5,000 outstanding = ₹55,000.
  3. Direct expenses = wages 55,000 + freight inwards 15,000 = ₹70,000.
  4. Debit side = opening stock 60,000 + purchases 3,90,000 + direct expenses 70,000 = ₹5,20,000.
  5. Credit side = sales 6,50,000 + closing stock 70,000 = ₹7,20,000.
  6. Gross profit = 7,20,000 − 5,20,000 = ₹2,00,000.
  7. Check: cost of goods sold = 5,20,000 − 70,000 = 4,50,000. Gross profit = 6,50,000 − 4,50,000 = ₹2,00,000.

Answer: Gross profit is ₹2,00,000. The drawings of ₹10,000 are shown in the balance sheet as a deduction from capital.

Exam tips

  • Read adjustments before drawing the account. Most lost marks come from a missed adjustment.
  • Show working notes for net purchases, net sales and direct expenses. Step marks are given even if the final figure is wrong.
  • Use the cost of goods sold check to confirm your gross profit in under a minute.
  • Learn a fixed list of direct expenses: carriage inwards, freight, wages, import duty, factory power, fuel. Treat carriage outwards and selling costs as indirect.
  • Write the heading properly: Trading Account for the year ended on the date, and label the balancing figure with c/d.

Practice questions from Final Accounts of Sole Proprietors

Trading Account and Gross Profit: frequently asked questions

What is the difference between a trading account and a Profit and Loss Account?

The trading account finds gross profit from buying and selling goods using direct costs. The Profit and Loss Account starts with gross profit, adds other incomes and deducts indirect expenses to find net profit.

Is carriage inwards a direct or indirect expense?

Carriage inwards is a direct expense because it is a cost of bringing goods to the place of business. It goes in the trading account. Carriage outwards is an indirect selling expense and goes in the Profit and Loss Account.

Where do I show closing stock?

Show closing stock on the credit side of the trading account and also as a current asset in the balance sheet. It is usually valued at the lower of cost and net realisable value.

What happens if the trading account shows a gross loss?

The gross loss appears on the credit side as the balancing figure. It is then transferred to the debit side of the Profit and Loss Account.