Spotting profit and loss statements mistakes before they cost money

A profit and loss statement can be arithmetically perfect and still describe a business that does not exist. Every column adds, every account is coded, and the figure at the bottom is wrong by a distance that would change what the owner does next.

The nine below are the ones that do that. Each is described with the entry that produced it and the entry that fixes it, because a mistake you cannot reverse is not a mistake you understand. All the amounts are invented.

What to take away

1. Building the statement from the bank

Every payment becomes a cost on the day it leaves the account, and every deposit becomes income on the day it arrives. This produces a cash summary, which is a legitimate document with the wrong title.

What it does: a month with a large supplier payment for the previous month's work shows a loss that never happened. A month where a customer paid late shows income that was earned two months earlier.

Fix: record the sale when the work is done and the cost when the goods or service arrive, which is what the revenue recording guide and its expense counterpart are about.

2. Loan repayments treated as expenses

A repayment of 2,000, of which 1,880 is principal and 120 is interest, coded in full to a cost account.

What it does: costs overstated by 1,880 every month, and a liability on the balance sheet that never reduces even though it is being paid off.

Fix: interest 120 to a cost account, 1,880 against the loan balance. Get the split from the lender's schedule, not by estimating it. Interest and principal are treated differently for tax as well as in the ledger, which the federal guide to business expense resources is the place to confirm for your own case.

3. Owner drawings recorded as a cost

Money the owner takes out of the business, coded to wages or to a general expense account.

What it does: profit understated by the whole amount, and a statement that tells the owner the business is losing money when it is funding their life. It also makes every margin figure unusable.

Fix: drawings reduce what the business owes the owner, which is an equity movement on the balance sheet, not a cost. Where and how the owner should actually be paid is a question for an accountant and depends on the legal form of the business.

4. Stock purchases charged as costs when bought

Buying 6,000 of stock in a month and charging all of it to cost of sales.

What it does: the month of purchase looks terrible and the months in which the stock is actually sold look excellent. Gross margin becomes noise.

Fix: Stock bought is an asset. It becomes a cost when sold. Without a period-end count, you cannot know how much went. So a business holding stock cannot produce an honest monthly statement without counting.

Holding stock also changes which accounting methods are open to a business at all. The federal guide to accounting periods and methods covers this point.

5. Annual costs charged in the month they are paid

An insurance premium of 2,400 covering twelve months, all of it in one month.

What it does: one bad month per year, every year, in the same month, which owners come to expect and stop questioning.

Fix: hold the 2,400 as a prepayment and release 200 a month. Keep a short schedule of everything paid annually with its monthly release written beside it.

6. Mixing cost of sales and overheads

Coding subcontractor invoices to the same account as office costs, or moving a cost between the two groups depending on who coded it.

What it does: gross margin moves for reasons that have nothing to do with trading, and the breakeven figure computed from it is wrong.

Fix: write a one line definition for every account saying which group it belongs to and why, and keep those definitions with the chart of accounts rather than in someone's memory.

7. Recording gross when you are acting as an agent

A business that collects 10,000 from a client, passes 8,500 to a supplier and keeps 1,500, showing 10,000 of revenue.

What it does: revenue overstated by 8,500. Margin looks catastrophic. Any measure computed on revenue is meaningless, and the figure may matter for registration thresholds set elsewhere.

Fix: decide, and document, whether the business is principal or agent for each stream. If the business never controls what is being sold and its take is a fee, revenue is 1,500. This is one worth confirming with an accountant, because the test is more subtle than it first looks.

8. Burying one-off items in the ordinary lines

A legal settlement, a large bad debt or an insurance recovery, coded to a general overhead account.

What it does: a period looks like it turned, when in fact something happened once. Anyone comparing periods, including a lender, draws the wrong conclusion.

Fix: name the item on its own line, below operating profit where its size warrants. The rest of the statement then still means what it says.

9. Publishing before cut-off is done

The statement goes out on the second working day because someone wanted it fast, and three supplier invoices arrive on the fifth.

What it does: this month reads better than it was and next month reads worse. Over a year the trend line is entirely manufactured.

Fix: a short list of things that must be true before the period is called closed. Invoices received and entered, statements checked, unbilled work recorded, bank agreed. The routine is set out in the bookkeeping foundations guide, and it takes less time than explaining the same false movement twice.

The two checks that catch most of these

Both take minutes. Neither requires knowing what the answer should be, which is what makes them worth running on a statement you did not prepare.

Common questions