Financial Statements II is the chapter that carries a business from the trial balance to final accounts. A trial balance is a list of ledger balances; on its own it does not give the correct profit because it is not adjusted for accruals.
This revision page gives you all eleven adjustments, the journal entry for each, its profit and loss treatment, its balance sheet treatment, and every formula you will need. These notes follow the 2026-27 session.
For the rest of the course, see the Class 11 Accountancy notes, browse all Class 11 revision notes, or start from the CBSE notes index. You can verify the chapter in the official NCERT Accountancy-II textbook (PDF); the page numbers cited below follow that book.
What Financial Statements II Covers: From Trial Balance to Final Accounts
The preparation of final accounts rests on the accrual concept: revenues are counted when earned and expenses when incurred, not when cash is received or paid (NCERT, p. 318). So an insurance premium paid for twelve months in the middle of the year is only partly this year’s expense; salaries paid after the year-end for March are still this year’s expense.
Because of this, a trial balance needs adjustments before the accounts show a true profit and a true financial position. NCERT lists eleven items that usually need adjustment (NCERT, p. 319):
- Closing stock
- Outstanding expenses
- Prepaid / unexpired expenses
- Accrued income
- Income received in advance
- Depreciation
- Bad debts
- Provision for doubtful debts
- Provision for discount on debtors
- Manager’s commission
- Interest on capital
When you prepare final accounts, you are given a trial balance plus additional information. Every adjustment is reflected at two places in the final accounts so that the double entry is complete (NCERT, p. 319). The chapter’s summary table on page 340 compresses the treatment of all eleven adjustments.
Closing Stock, Outstanding Expenses and Prepaid Expenses
Closing stock
Closing stock is the cost of unsold goods lying in the store at the end of the accounting year. It is credited to the trading or profit and loss account and shown on the asset side of the balance sheet (NCERT, p. 320). Entry: Closing Stock A/c Dr; To Trading A/c.
The closing stock of this year becomes the opening stock of next year and then appears in next year’s trial balance.
Some businesses adjust both stocks through the purchases account. The entries are Closing Stock A/c Dr; To Purchases A/c, and Purchases A/c Dr; To Opening Stock A/c. The result is adjusted purchases:
\(\text{Adjusted purchases} = \text{Purchases} + \text{Opening stock} – \text{Closing stock}\) (NCERT, p. 321).
When this is done, the trial balance itself contains the closing stock, so it is no longer an adjustment item and no separate credit is shown in the trading account.
Outstanding expenses
Outstanding expenses are expenses incurred in the current year but not yet paid. Add them to the related expense head and show them as a current liability (NCERT, pp. 322–323). Example: Ankit’s wages stood at ₹8,000, but ₹500 wages were outstanding; the correct wage expense became ₹8,500 and ₹500 appeared on the liabilities side. Entry: Wages A/c Dr ₹500; To Wages Outstanding A/c ₹500.
Prepaid expenses
Prepaid expenses are paid, but the benefit is still to come in the next year. Deduct them from the related expense and show them as a current asset (NCERT, pp. 323–325). Example: salary of ₹25,000 included ₹5,000 prepaid salary; the expense fell to ₹20,000 and ₹5,000 appeared as an asset. Entry: Prepaid Salary A/c Dr ₹5,000; To Salary A/c ₹5,000.
Accrued Income and Income Received in Advance
Accrued income is income earned in the current year but not yet received. Add it to the related income in the profit and loss account and show it as a current asset (NCERT, pp. 325–326). In the NCERT example, commission received of ₹5,000 plus accrued commission of ₹1,500 made the year’s commission income ₹6,500. Entry: Accrued Commission A/c Dr ₹1,500; To Commission A/c ₹1,500.
Income received in advance (unearned income) is received but not yet earned; it belongs to the next year. Deduct it from the related income and show it as a current liability (NCERT, p. 327). Rent of ₹3,000 received for the next three months is such a case. Entry: Rent Received A/c Dr ₹3,000; To Rent Received in Advance A/c ₹3,000.
Memory device: the four timing adjustments sort by who owes whom. Short version: prepaid and accrued sit on the assets side; outstanding and advance income sit on the liabilities side.
Depreciation, Bad Debts and Further Bad Debts
Depreciation is the decline in asset value from wear and tear or passage of time. Treat it as an expense: Depreciation A/c Dr; To Asset A/c. It is debited to the profit and loss account, and the asset is shown at cost minus depreciation (NCERT, pp. 328–329). Example: furniture of ₹15,000 at 10% depreciation gives ₹1,500; furniture appears at ₹13,500.
Bad debts are actual losses from debtors who cannot pay. A bad-debt balance already in the trial balance has been recorded in the books. Further bad debts come only as additional information, so they still need an entry: Bad Debts A/c Dr; To Debtors A/c (NCERT, p. 329).
In Ankit’s case, debtors fell from ₹15,500 to ₹13,000 after ₹2,500 further bad debts, and total bad debts rose from ₹4,500 to ₹7,000.
Provisions for Doubtful Debts and Discount on Debtors
A provision for doubtful debts is an estimated loss, not an actual one. Since the exact future bad debt cannot be known, a prudent estimate is charged to profit, and the provision is deducted from debtors in the balance sheet (NCERT, p. 331). Entry: Profit and Loss A/c Dr; To Provision for Doubtful Debts A/c.
When a provision already exists from the previous year, it is the old provision; the provision needed at the year-end is the new provision. The current year’s bad debts are set against the old provision first, and only the balance needed reaches the profit and loss account (NCERT, pp. 332–333).
Misconception autopsy — the old-provision trap. Students often deduct the old provision from debtors in the balance sheet. Correct: the old provision has already been consumed by the year’s bad debts, so it is set off inside the profit and loss calculation. The balance sheet deducts only the new provision from debtors.
Provision for discount on debtors covers the discount the business may have to allow for prompt payment. It is calculated only on good debtors: debtors minus further bad debts minus the new doubtful-debt provision (NCERT, pp. 333–334). Entry: Profit and Loss A/c Dr; To Provision for Discount on Debtors A/c.
The balance-sheet deduction chain for debtors is:
| Stage | What it gives |
|---|---|
| Sundry debtors | Starting figure from the trial balance |
| Less: Further bad debts | Debtors expected to pay |
| Less: New provision for doubtful debts | Good debtors |
| Less: Provision for discount on debtors | Net debtors shown in the balance sheet |
Manager’s Commission and Interest on Capital
Manager’s commission is a percentage of net profit. Unless the question states the basis, assume commission is on profit before charging such commission (NCERT, p. 335).
Formulas with \(P\) = profit before commission and \(r\) = rate in per cent:
\[ C_{\text{before}} = P \times \frac{r}{100} \qquad C_{\text{after}} = P \times \frac{r}{100 + r} \]
The after-charging formula comes from the fact that the commission itself is a percentage of the profit that remains after the commission is deducted. The entry is Profit and Loss A/c Dr; To Manager’s Commission A/c, and any unpaid portion is a current liability (NCERT, p. 335).
Interest on capital is treated as a business expense for the use of the proprietor’s funds. It is computed on opening capital; if additional capital is brought during the year, interest is computed from the date it was brought (NCERT, p. 338). Entry: Interest on Capital A/c Dr; To Capital A/c.
It is debited to the profit and loss account and added to capital in the balance sheet. The two effects partly neutralise each other: profit falls by the interest, but capital rises by the same amount (NCERT, p. 339). Example: 5% on capital of ₹12,000 gives interest of ₹600.
Every Adjustment Term and Its Journal Entry at a Glance
Here is the complete one-line map of all eleven adjustments.
| Term | Meaning in one line | Adjustment entry | P&L treatment | Balance sheet treatment |
|---|---|---|---|---|
| Closing stock | Cost of unsold goods at year-end | Closing Stock A/c Dr → To Trading A/c | Credit side (no credit when handled through adjusted purchases) | Assets side |
| Outstanding expenses | Expenses incurred but unpaid at year-end | Expense A/c Dr → To Outstanding Expense A/c | Add to the relevant expense | Liabilities side |
| Prepaid expenses | Expenses paid whose benefit is next year | Prepaid Expense A/c Dr → To Expense A/c | Deduct from the relevant expense | Assets side |
| Accrued income | Income earned but not yet received | Accrued Income A/c Dr → To Income A/c | Add to the relevant income | Assets side |
| Income received in advance | Income received but not yet earned | Income A/c Dr → To Income Received in Advance A/c | Deduct from the relevant income | Liabilities side |
| Depreciation | Fall in asset value from use or time | Depreciation A/c Dr → To Asset A/c | Debit side as expense | Deducted from the asset |
| Provision for doubtful debts | Estimated future loss on debtors | P&L A/c Dr → To Provision for Doubtful Debts A/c | Debit side | Deducted from debtors |
| Provision for discount on debtors | Estimated discount for prompt payment | P&L A/c Dr → To Provision for Discount on Debtors A/c | Debit side | Deducted from debtors |
| Manager’s commission | Manager’s reward as a percentage of net profit | P&L A/c Dr → To Manager’s Commission A/c | Debit side | Liabilities side (if unpaid) |
| Interest on capital | Expense for the use of the proprietor’s capital | Interest on Capital A/c Dr → To Capital A/c | Debit side | Added to capital |
| Further bad debts | Bad debt discovered after the trial balance was prepared | Bad Debts A/c Dr → To Sundry Debtors A/c | Debit side | Deducted from debtors |
Formulas to Keep Ready While Solving
These are the calculations that repeat in almost every question. Amounts are in ₹ and rates are per cent per annum unless the question says otherwise.
| Formula | When to use | What the symbols mean |
|---|---|---|
| \(\text{Adjusted purchases} = \text{Purchases} + \text{Opening stock} – \text{Closing stock}\) | When opening and closing stock are adjusted through the purchases account (NCERT, p. 321) | Purchases = goods bought in the year; opening and closing stock as usual |
| \(\text{New provision} = \text{rate}\% \times (\text{Debtors} – \text{Further bad debts})\) | Whenever a doubtful-debt provision is to be created at year-end (NCERT, p. 333) | Debtors here means debtors after further bad debts are written off |
| \(\text{Charge} = \text{Bad debts} + \text{Further bad debts} + \text{New provision} – \text{Old provision}\) | When an old provision already exists (NCERT, pp. 332–333) | Bad debts = trial balance bad debts plus further bad debts; old provision is the balance brought forward |
| \(\text{Discount provision} = \text{rate}\% \times \text{Good debtors}\) | When a provision for discount on debtors is required (NCERT, p. 334) | Good debtors = debtors − further bad debts − new doubtful-debt provision |
| \(\text{Commission before} = P \times \dfrac{r}{100}\), \(\text{Commission after} = P \times \dfrac{r}{100 + r}\) | Manager’s commission before or after charging (NCERT, pp. 335–336) | P = profit before commission; r = rate of commission in per cent |
| \(I = C \times r \times t\) | Interest on capital (NCERT, p. 338) | C = capital at the start of the year; r = rate; t = time in years (part-year for additional capital) |
Worked Example: Doubtful Debts and Discount on Debtors with New Numbers
Method: Provision for doubtful debts and discount on debtors when an old provision exists.
Given: Sundry debtors ₹50,000; bad debts already in trial balance ₹2,000; further bad debts ₹1,000; old provision for doubtful debts ₹2,000; maintain new provision at 5% on debtors; create provision for discount on debtors at 2%.
Step 1: Reduce debtors by further bad debts: 50,000 − 1,000 = 49,000.
\[ \text{Debtors after further bad debts} = 50{,}000 – 1{,}000 = 49{,}000 \]
Step 2: Find the total bad debts for the year: trial balance bad debts plus further bad debts.
\[ \text{Total bad debts} = 2{,}000 + 1{,}000 = 3{,}000 \]
Step 3: Calculate the new doubtful-debt provision on the reduced debtors.
\[ \text{New provision} = 49{,}000 \times 5\% = 2{,}450 \]
Step 4: Work out the charge to the profit and loss account by setting off the old provision.
\[ \text{Profit and loss charge} = 3{,}000 + 2{,}450 – 2{,}000 = 3{,}450 \]
Step 5: Find good debtors, the base for the discount provision.
\[ \text{Good debtors} = 49{,}000 – 2{,}450 = 46{,}550 \]
Step 6: Calculate the provision for discount on debtors.
\[ \text{Discount provision} = 46{,}550 \times 2\% = 931 \]
Step 7: Show debtors at their net realisable value in the balance sheet.
\[ \text{Final debtors} = 49{,}000 – 2{,}450 – 931 = 45{,}619 \]
Final answer: Profit and loss charge = ₹3,450; discount provision = ₹931; debtors appear in the balance sheet at ₹45,619.
Alternative for comparison: if no old provision existed, the whole ₹3,000 bad debts plus ₹2,450 new provision, ₹5,450, would be charged to the profit and loss account. With the old provision, only ₹3,450 is the charge because ₹2,000 of the loss is absorbed by the old provision.
Worked Example: Manager’s Commission Before and After Charging
Method: Compare commission on profit before charging with commission on profit after charging. Suppose net profit before commission is ₹44,000 and the manager’s commission is 10%.
Before charging: commission = 44,000 × 10/100 = 4,400.
\[ C = 44{,}000 \times \frac{10}{100} = 4{,}400 \]
After charging: commission = 44,000 × 10/110 = 4,000.
\[ C = 44{,}000 \times \frac{10}{110} = 4{,}000 \]
| Basis | Commission | Net profit after commission | Balance sheet liability |
|---|---|---|---|
| Before charging | ₹4,400 | 44,000 − 4,400 = ₹39,600 | ₹4,400 |
| After charging | ₹4,000 | ₹40,000 | ₹4,000 |
Before-charging commission is higher because it is 10% of the full profit; after-charging commission is 10% of the profit that remains after deducting the commission. The entry in both cases is Profit and Loss A/c Dr; To Manager’s Commission A/c, and the unpaid amount is a current liability.
Default rule: if the question does not mention the basis, calculate on profit before charging such commission (NCERT, p. 335).
Common Mistakes That Break an Adjustments Answer
| Mistake | Correct rule | How to check your answer |
|---|---|---|
| Showing outstanding wages as a separate profit and loss line | Add outstanding wages to the wages figure itself (NCERT, pp. 322–323) | Wages in the P&L equal paid wages plus outstanding wages |
| Deducting the old provision from debtors in the balance sheet | Deduct the new provision from debtors; set off the old provision inside the P&L charge (NCERT, pp. 332–333) | The balance sheet shows only the new provision against debtors |
| Calculating discount provision on the original debtors | Calculate it on good debtors: debtors − further bad debts − new doubtful-debt provision (NCERT, p. 334) | Reach good debtors first, then apply the discount rate |
| Treating prepaid insurance as an expense | Prepaid part is an unexpired benefit, so it is an asset (NCERT, pp. 323–325) | P&L shows insurance minus prepaid; balance sheet shows the prepaid amount as an asset |
| Assuming commission is after charging when the question is silent | The default is before charging such commission (NCERT, p. 335) | Check whether the question names the basis; silent means before charging |
| Omitting the interest-on-capital addition to capital after debiting it in the P&L | Interest on capital is an expense in the P&L and an addition to capital in the balance sheet (NCERT, pp. 338–339) | Capital in the balance sheet rises by the interest even though profit falls |
How to Lay Out an Adjustments Answer: Inside versus Outside the Trial Balance
The first decision for any item is whether it is already in the trial balance. An item inside the trial balance has been recorded in the ledger; use it as given. An item given only as additional information is outside the trial balance; it needs an adjusting entry and must then appear at two places in the final accounts.
| Position of item | What it means | What you do |
|---|---|---|
| Inside the trial balance | The ledger already has the balance | Use the figure as given; no fresh adjustment entry is needed for that balance |
| Outside the trial balance | It exists only as additional information | Pass the adjusting entry and show its effect at two places in the final accounts |
Example from the chapter: closing stock given as additional information is credited to the trading account and shown as an asset (NCERT, p. 320); closing stock that already appears in the trial balance because stocks were adjusted through purchases gets no separate trading-account credit, only an asset position (NCERT, p. 321).
Similarly, an old provision already in the trial balance is used as given in the P&L calculation (NCERT, p. 332).
The textbook’s own Long Answer 3 (NCERT, p. 369) asks for the treatment of prepaid expenses, depreciation and closing stock when given inside versus outside the trial balance. The book shows the outside version for prepaid salary and depreciation (NCERT, pp. 324, 328–329) and the inside version for closing stock once purchases are adjusted.
The deciding question is always: is the balance already in the trial balance?
A complete answer follows this order:
- Journal entry for each adjustment, with a short narration.
- Trading and profit and loss account with closing stock, adjusted expenses and adjusted incomes.
- Balance sheet with every asset and liability created by the adjustments.
Check the double entry for every adjustment: if an item has only one effect in your answer, trace the other side again (NCERT, p. 319).
One-Page Revision Summary: All Eleven Adjustments
Six-step solving sequence for any numerical:
- Build the trading account; bring closing stock to the credit side and to the assets side.
- Add outstanding expenses and deduct prepaid expenses from their heads.
- Add accrued income and deduct income received in advance from their heads.
- Charge depreciation, bad debts, further bad debts, provision for doubtful debts and provision for discount on debtors in that order.
- Provide manager’s commission, using before-charging by default.
- Provide interest on capital, then complete the balance sheet with all deductions and additions.
Final master table — compressed from NCERT, p. 340:
| Adjustment | P&L treatment | Balance sheet treatment |
|---|---|---|
| Closing stock | Credit side | Assets side |
| Outstanding expenses | Add to the expense | Liabilities side |
| Prepaid expenses | Deduct from the expense | Assets side |
| Accrued income | Add to the income | Assets side |
| Income received in advance | Deduct from the income | Liabilities side |
| Depreciation | Debit side | Deducted from the asset |
| Provision for doubtful debts | Debit side | Deducted from debtors |
| Provision for discount on debtors | Debit side | Deducted from debtors |
| Manager’s commission | Debit side | Liabilities side (if unpaid) |
| Interest on capital | Debit side | Added to capital |
| Further bad debts | Debit side | Deducted from debtors |
The chapter’s key terms and summary on pages 367–368 are good revision anchors; run through this page once, then solve one full numerical from the textbook to fix the sequence in mind.
Frequently Asked Questions on Financial Statements II
If the rate of manager’s commission is given but the basis is not mentioned, should we calculate it before or after charging commission?
Calculate it before charging such commission. When the question does not specify the basis, the assumed basis is profit before charging commission (NCERT, p. 335). Before-charging commission is larger because the rate applies to the full profit.
What is the difference between bad debts and provision for doubtful debts?
Bad debts are actual losses already identified; provision for doubtful debts is an estimated, prudent charge for possible future losses among the debtors that remain (NCERT, p. 331). Bad debts are recorded when they are known; the provision is estimated at the year-end.
How is provision for discount on debtors calculated, and why only on good debtors?
Calculate it only on good debtors: debtors minus further bad debts minus the new doubtful-debt provision (NCERT, pp. 333–334). Discount is an incentive for prompt payment, and a doubtful debtor is unlikely to pay promptly.
Where is income received in advance shown in the final accounts?
It is deducted from the related income on the credit side of the profit and loss account and shown as a current liability on the liabilities side of the balance sheet (NCERT, p. 327). It is unearned income, so it cannot remain in this year’s profit.
Why is interest on capital debited to the profit and loss account and also added to capital in the balance sheet?
Because the business treats the use of the proprietor’s funds as an expense of the business. The profit and loss account falls by the interest, and capital in the balance sheet rises by the same amount, so the two effects partly neutralise each other (NCERT, pp. 338–339).
Reference: NCERT Class 11 Accountancy textbook, chapter Financial Statements – II.
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