The steps are the following:
1. Ignoring the opening and dosing of the cash and bank balances that appear in the collection and payment account.
2. Eliminate all items of principal collections and payments.
3. Determine the income for the corresponding year by subtracting from the total earnings the income received on account of previous and future years and adding the accrued and expired income in the year not received and the income received in the previous year but corresponding to the present.
4. Determine the expenses for the relevant period by deducting the expenses related to the previous period and the following period from the total payments and adding the pending expenses at the end and the prepaid expenses at the beginning.
5. Make adjustments, based on additional information such as depreciation, bad debts, etc., if any.
6. The income and expense account, when balanced, will reveal a surplus (if the credit side is greater) or a deficit (if the debit side is greater). If there is a surplus, that is, excess income over expenses, add it to the capital or accumulated fund. However, if there is a deficit, that is, excess spending over income, deduct it from the capital or accumulated fund.
Distinction between receipt and income
“Receipt” means the total cash received during the current year. But “income” means the total income earned during the current year.
The points of distinction between the two are given below:-
receipt
1. Any cash received in considered as a receipt.
2. Not limited to any accounting year. In other words, it can include cash received for any past, present, or future year.
3. It can be both capital and income.
4. In case of receipt, cash increases equal to the receipt amount.
5. An item cannot be called a “receipt” unless an equivalent amount of cash is received.
6. It is recorded on the debit side of the cash book.
7. It is not included in the final accounts. In other words, it is not considered when determining the concern outcome.
Income
1. The greatest money received may not be considered income. Cash received for the current year is considered income only.
2. Limited to the current accounting year only.
3. It only has a tax character.
4. In the case of income, the money in cash may not increase equal to the amount of the income.
5. An item can be “income” even though no cash has been received.
6. It is credited to the income and expense account.
7. It must be considered in the final accounts.
Distinction between payment and expense
Payment means the total cash paid during the current year. But expense means total expenses incurred for the current year only.
The points of distinction between the two, are as follows:-
Payments
1. Any cash entered considered as payment.
2. Not limited to any accounting year, that is, it may include cash paid for any past, present, or future year.
3. It can be both capital and income.
4. In case of payment, the cash decreases equal to the payment amount.
5. An item cannot be called a “payment” unless an equivalent amount is paid in cash.
6. It is recorded on the credit side of the cash book, that is, it is credited to the cash account.
7. It is not included in the final accounts. In other words, it is not considered when determining the concern outcome.
Spent
1. Any greater expense paid in cash may not be considered as an expense.
2. Limited to the current accounting year only.
3. It only has a tax character.
4. The greater cash may not be reduced by the same amount of the expense.
5. An item can be “expended” even if it was not paid for in cash.
6. It is charged to the income and expense account.
7. It must be considered in the final accounts.