Tax Question:
What is an Income Statement?
Facts:
An Income Statement is the part of the financial statements prepared for owners, investors, and bankers that shows revenues and expenses for a defined period of time, usually the fiscal year. It is a summary of the financial performance of the corporation during the reporting period.
Discussion:
Income Statements may also be called a Profit and Loss Statement, Earnings Statement or Statement of Income. The purpose of the Income Statement is to show stakeholders whether the corporation had a net profit or net loss during a period of time such as: monthly, quarterly, or yearly.
The Income Statement can be either Single Step or Multi-Step. Single Step statements are very basic with a total for revenue, a total for expenses and the net difference being the net income before taxes. Multi-step Income Statements are the most common type that are included in the financial statements for a corporation as they disclose more meaningful information.
Multi-step statements start with all revenues or sales from a corporation that are considered active revenues. All cost of goods sold (such as materials and purchases) are then totaled and deducted which results in gross income or gross profit. The company’s operating expenses (such as rent, office and auto expenses) are then listed under a separate section and deducted from gross profit which results in income from operations. Then passive income such as investment income or dividend income from other corporations are categorized in a separate section and added to income from operations to arrive at net income before taxes. After taxes are recorded and deducted from this amount, the net income after tax is added to retained earnings.
Income Statements help owners, investors and lenders view past performance, predict future performance, and capability of generating cash flow. It is important to note that the revenue and expenses should be recorded during the period in which they are incurred, not when the cash is received (the accrual basis). The matching of revenue to expenses is a financial accounting term known as the matching principle. As a result, you will tend to see accruals recorded at year end (on the Balance Sheet-see FAQ #151) to capture those revenue and expenses reported on the Income Statement. For example, accounts receivable are a common accrual as the company has provided sales or services during the current period, but the cash is not received until after the current period.
Recommendation:
If you would like more information on an Income Statement or interpreting your financial statements, please contact Gilmour Knotts Chartered Accountants.
