Difference between Trial Balance and Balance Sheet

Table of Contents:-

• Difference between Trial Balance and Balance Sheet
• What is Trial Balance in Accounting
• Preparation of Trial Balance
• What is Balance Sheet in Accounting
• Preperation of Balance Sheet
• Form of a Balance Sheet

Difference Between Trial Balance and Balance Sheet

Given below are the points of difference between Trial Balance and Balance Sheet:

1. Trial balance is prepared to check the arithmetical accuracy of recording. Meanwhile, the balance sheet reveals the business’s financial position.

2. Both trial balance and balance sheet list balances of ledger accounts. Whereas the trial balance lists all types of accounts (nominal, honest, and personal), the balance sheet only shows real and personal accounts’ balances.

3. The trial balance does not contain net profit/loss information. Meanwhile, details of the capital account in the balance sheet provide information about net profit/loss.

4. In the trial balance, all accounts are divided into two categories: accounts with debit balances and accounts with credit balances. Debit and credit accounts are listed separately. Meanwhile, the balance sheet’s proportions of ledger accounts are divided into balances of assets, liabilities, and capital. Assets are listed on one side, and weaknesses and money are listed on the other.

5. Preparation of a trial balance is not necessary, but preparation of a balance sheet is required to complete the accounting process.

Key Difference between Trial Balance and Balance Sheet

Basis of Difference	Trial Balance	Balance Sheet
Definition	The trial balance is a statement that records credits from all ledger accounts.	The balance sheet is a financial statement that shows the position of an organization’s assets and liabilities at a specific time.
Applied in	The primary purpose of a trial balance is to verify whether the debit and credit balances match each other.	The primary purpose of the balance sheet is to ascertain the accuracy of the company’s financial position.
Component of Financial Statement	It is not a component of the financial statement.	It is a component of the financial statement.
Purpose of Creation	It is used only for internal users of information.	It is used only for external users of information
Frequency of Recording	The trial balance is recorded quarterly, monthly, half-yearly, and yearly.	The balance sheet is recorded yearly.
Source of data	Data is collected from the General ledger.	Data is gathered from the trial balance

What is Trial Balance in Accounting

The Trial Balance is a statement prepared on separate papers by compiling all ledger account balances as of a specific date. Its purpose is to verify the arithmetical accuracy of ledger accounts and to categorize debits on one side and credits on the other. Undoubtedly, it serves as a valuable tool and aids in final account preparation by encompassing balances from Personal, Real, and Nominal accounts.

As it is compiled using ledger account balances, a trial balance’s debit and credit sides must always be equal. In other words, it ensures that:

1. The balances (debit or credit) extracted from various accounts are arithmetically correct.
2. The proportions are accurately taken and posted in the Trial Balance.
3. Debits and recognition of all transactions are duly recorded.

It is important to note that the Trial Balance is not a component of an account but a statement crafted to confirm the arithmetical accuracy of ledger accounts.

Preparation of Trial Balance

Initially, close each account one by one, considering their respective differences. These differences will either indicate a debit balance (if the debit total exceeds the credit total) or a credit balance (if the credit total is greater than the debit total). Debit balances are recorded in the debit column, while credit balances are noted in the credit column. The sums of both columns must match. The Trial Balance can be prepared using one of the following three methods:

1. Total Method:- In this approach, the Trial Balance is prepared by summing up the debits and credits of all ledger accounts.

2. Balance Method:- This method involves preparing the Trial Balance by considering the balance of each ledger account individually.

3. Compound Method:- The Compound Method combines the above two methods and is known as the Total-Cum-Balance Method.

Example 1

Record the following transactions and prepare a trial balance from the given data:

1. Started the business with a capital of Rs. 5,000.
2. Sold goods to Mr. X for Rs. 500.
3. Received cash from Mr. X Rs. 450 in full settlement.
4. Purchased goods from Mr. T. for Rs. 1,700.
5. Paid Mr. S in full in cash Rs. 1,450.
6. Paid salary to Mr. Z Rs. 300.
7. Purchased a plant Rs. 1,000.
8. Sold goods for Rs. 1,300.
9. Received interest Rs. 50.
10. Deposited cash into the bank Rs. 1,000.
11. Paid wages Rs. 100.
12. Withdrew cash from the bank for personal use Rs. 200.

From the above data, prepare the trial balance using the following methods:

1. Total method
2. Balance Method
3. Compound Trial Balance

Method 3 : Compound Trial Balance

As at / on ……………………………………..

Head of Account	L. F.	Total		Balance
		Debit (Rs.)	Credit (Rs.)	Debit (Rs.)	Credit (Rs.)
Cash Account		6,800	3,850	2950	……
Capital Account		……	5000	……	5000
X Account		500	500	……	……
Sales Account		……	1800	……	1800
Discount Allowed Account		50	……	50	……
Purchase Account		1500	……	1500	……
S Account		1500	1500	……
Discount Received Account		……	50	……	50
Salary Account		300	……	300	……
Plant Account		1000	……	1000	……
Interest Account		……	50	……	50
Bank Account		1000	200	800	……
Wages Account		100	……	100	……
Drawing Account		200	……	200	……
		12950	12950	6900	6900

What is Balance Sheet in Accounting

After preparing the Trading and Profit and Loss Account and determining the net profit or loss, the businessman creates a statement known as the ‘Balance Sheet.’ The purpose is to ascertain the financial position of a business, i.e., its assets and liabilities, on a specific date, typically at the end of the accounting year. Consequently, it is also referred to as a Position Statement, revealing all assets and liabilities of the business as of the end of an accounting year.

The Committee on Terminology of the American Institute of Certified Public Accountants defined the Balance Sheet as a list of balances in the asset and liability accounts. This list illustrates the position of assets and liabilities of a specific business at a particular point in time. The final reports are prepared with the assistance of a Trial Balance. All expenses and incomes appearing in the Trial Balance are transferred to the Trading and Profit and Loss Account. The remaining items in the Trial Balance represent the balances of personal and real accounts. Among these, the versions with debit balances represent assets, and those with credit balances represent liabilities. Consequently, all these balances are transferred to the Balance Sheet.

Another crucial point is that the Balance Sheet is prepared only after the Trading and Profit and Loss Account. The Profit and Loss Account is closed by transferring the Net Profit/Net Loss to the Capital Account, which is then presented on the liabilities side of the Balance Sheet.

Preperation of Balance Sheet

The remaining funds are personal and real after closing all the nominal accounts in the trial balance by transferring them to the Trading Account and Profit and Loss statement. The balance sheet is then prepared by considering all the individual reports (Capital and Drawings), absolute ideas (Assets), and the results obtained from the Profit and Loss Account. Liabilities are presented on the left side, and assets are on the right side.

Fixed Assets and Current Assets

An asset acquired for utilization and not for resale is termed a fixed, permanent, or non-current asset. Fixed assets are generally valued at cost less depreciation. This category includes items acquired for use in the operation of the business for a relatively long period, such as land and buildings, plant and machinery, furniture, motor vehicles, etc.

On the other hand, current assets refer to items converted into cash during the normal operating cycle of the business. For example, the conversion of money into stock, debtors, debtors into bills receivable, and accounts receivable into cash completes the business’s operating cycle. Generally, these items are converted into money within a short period in the ordinary course of business. In addition to cash, bank balance, bills receivable, debtors, and stocks, current assets include short-term investments, prepaid expenses, and accrued incomes.

Tangible, Intangible, and Fictitious Assets

Tangible assets possess physical identity and encompass items that can be seen and touched, such as land and buildings, stock, cash, and furniture.

Intangible assets refer to resources owned and used in a business without physical existence, including goodwill, patents, trademarks, etc. Both tangible and intangible assets are essential for the operation of a business.

Fictitious Assets, strictly speaking, should not be labelled as assets because no benefit is derived from these assets in future operations. These include debit balances of the profit and loss account, deferred revenue expenditure, suspense accounts, discounts on issued shares and debentures, expenses related to the formation of the business, etc., and are written off over some time.

Short-Term and Long-Term Liabilities

Short-term liabilities refer to those obligations that are payable within a short period, typically within a year. These encompass creditors, bills payable, and outstanding expenses. Long-term liabilities due for settlement in a short period are also termed current liabilities.

Long-term liabilities are obligations to be met after one year, such as term loans, public deposits, debentures, etc.

Contingent Assets and Contingent Liabilities

A contingent liability refers to an obligation to pay upon the occurrence or non-occurrence of a particular event. Therefore, it is not an actual liability and is not recorded in the balance sheet. These liabilities appear as footnotes in the balance sheet. They are not provided in the books because the amount is payable only upon the happening or non-happening of a particular event.

A contingent asset is an asset whose existence, value, and ownership depend on the occurrence or non-occurrence of a specific event or the performance or non-performance of a specified act, as defined in the Kohlar Dictionary for Accountants. For example, decisions about property ownership in a pending court case will determine the ownership issue. Whether or not the business entity will acquire the property depends on the court’s decision. Until then, it is considered a contingent asset.

Capital and Revenue Expenditure

Expenditure refers to the cost incurred during the period under consideration. If the benefit of an expenditure is limited to a short period, typically a year, it is termed revenue expenditure. Examples include rent for a building, salaries, insurance premiums, wages, audit fees, etc. Revenue expenditure is treated as an expense and charged to the current year’s trading and profit and loss account.

On the contrary, if the benefit of an expenditure is to be received over a series of accounting years, it is termed a capital expenditure. The amount spent on purchasing fixed assets such as land and buildings, plant and machinery, patents, and trademarks is considered capital expenditure because the benefit is spread over several years. Expenditure on the initial repair of second-hand assets, installation of assets, extension, or improvement of fixed assets is also treated as capital expenditure and included in the cost of fixed assets. However, the amount spent to maintain fixed assets in working order is considered revenue expenditure and is debited to the profit and loss account.

Tips for preparing final accounts

Here are some practical tips for preparing final accounts:

1. In general, a trial balance is provided in the question. If only ledger balances are given and a trial balance is not provided, preparing a trial balance to identify any differences in the accounts is advisable. Any discrepancies in the trial balance are then transferred to the suspense account and recorded in the balance sheet.

2. All accounts appearing in the trial balance must be recorded in one place when preparing final reports.

3. Nominal accounts with debit balances are either debited to the trading or profit and loss accounts. Similarly, nominal accounts with credit balances are either credited to the trading or profit and loss accounts.

4. Real accounts in the trial balance have debit balances and are recorded on the assets side of the balance sheet.

5. Personal accounts with debit balances are recorded on the asset side. Personal accounts with credit balances are recorded on the liabilities side, either as capital (if the amount is payable to the owner(s)) or as liabilities (in case the amount is due to outsiders).

Tips for preparing final accounts

6. All accounts with debit balances appear either on the debit side of the trading account, profit and loss account, or the asset side of the balance sheet. However, if an account with a debit balance is to be shown on the opposite side, it is presented as a deduction. For example, the sales return account shows a debit balance but is recorded on the credit side of the trading account and deducted from sales.

Similarly, all accounts with credit balances appear either on the credit side of the trading account, profit and loss account, or on the liabilities side of the balance sheet. However, if an account with a credit balance is to be shown on the opposite side, it is shown as a deduction. For example, the purchase return account with a credit balance is deducted from purchases on the debit side of the trading account.

7. If specific information appears outside the trial balance, it implies that it has not been recorded in the books. To complete the double entry, it is recorded at two places during the preparation of final accounts. For example, information about closing stock provided outside the trial balance is recorded on the credit side of the trading account and the assets side of the balance sheet. However, if closing stock appears in the trial balance, it is recorded in one place only, and in that case, it is recorded on the asset side of the balance sheet.

8. Only business expenses will be transferred to the trading, profit, and loss accounts. Personal expenses of the owner(s) are treated as drawings and subtracted from the capital account. For example, income tax paid, life insurance premiums, rent for a residential building, etc., are considered as drawings and subtracted from the capital account.

Form of a Balance Sheet

The Balance Sheet is vertically divided into different two parts. In practice, Capital and various liabilities (representing what the business owes) are shown on the left-hand side. In contrast, multiple assets (representing what the company owns) are shown on the right-hand side. Thus, the Balance Sheet is an expanded representation of the accounting equation:

Capital + Liabilities = Assets

The first part of the equation is presented on the left-hand side of the Balance Sheet, referred to as the ‘liabilities’ side, and the second part of the equation is shown on the right-hand side of the Balance Sheet, known as the ‘assets’ side. Since the total value of assets always equals the absolute claims of the proprietor (Capital) and outsiders (liabilities), the two sides of the Balance Sheet must reconcile.

Refer to the table below for the format of a Balance Sheet.

Liabilities	Amount (Rupees)	Assets	Amount (Rupees)
Bank Overdraft	………	Cash in hand	………
Bills Payable	………	Cash at bank	………
Sundry Creditors	………	Bills Receivable	………
Loans	………	Sundry Debtors	………
Capital	………	Stock in trade	………
		Vehicles	………
		Furniture	………
		Plant & Machinery	………
		Land & Buildings	………
		Goodwil	………
Total		Total

The Balance Sheet is prepared to determine the financial position at a particular point in time and not ‘for a period.’ Hence, the heading of the Balance Sheet always reads as ‘Balance Sheet as of …………………. ‘ (a specific date). Thus, a Balance Sheet with the title ‘Balance Sheet as of December 31, 1987’ indicates the business’s financial position on December 31, 1987. This is because the balances keep changing. The credits on December 31 will differ from those on December 30 and those on January 1, 1988. Even a single transaction can change the values of assets and liabilities.

Suppose the total value of assets for a concern on December 31, 1987, is Rs. 1,00,000. The capital on that date is Rs. 60,000, and various liabilities amount to Rs. 40,000. Now, if the firm purchases goods worth Rs. 10,000 on credit on January 1, 1988, the effect of this credit purchase of goods would increase the value of the stock (an asset) by Rs. 10,000, and also the number of creditors (a liability) by Rs. 10,000. Thus, the position of assets and liabilities on January 1, 1988, differs from that on December 31, 1987. Hence, it is necessary to write the last date of the accounting year to which the balance relates.

Reference:

• https://egyankosh.ac.in/bitstream/123456789/26380/1/Unit-16.pdf