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Profit before tax or PBT is the gross profit that a business earns before income tax is applied. Earnings before tax or EBT is the other name for Profit Before Tax. The profit before tax value is found on the income statement which is generated either quarterly, half-yearly, or annually. The profit before tax value is used to determine how much tax the business has to pay based on its income. The profit before tax value is calculated based on a formula that takes into account the total revenue, operating expenses, interest expenses, and cost of goods sold.
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Profit before tax allows you to know and evaluate your profit margins. Profit margins allow you to understand the effectiveness of your ability to turn your revenue into profits. This is quite useful for the stakeholders of the business. Knowing the profit before tax value enables management to take valuable business decisions too. PBT also provides insight into how much tax will need to be paid by the business. Another benefit of the profit before tax value is that it is viewed along with the net profit and operating profit by the investors. This allows them to analyse your business and make decisions based on these values collectively.
The profit before tax formula is as follows.
Profit before tax = EBIT – Interest expenses
Or
Profit before tax = Revenue – Cost of goods sold – Operating expenses – Interest expenses
Here is an example to show you how the profit before tax formula is calculated.
Fiscal Year Ended | Dec. 31 2021 |
Net Revenues |
|
Company-operated stores | $25,000 |
Others | $3,500 |
Total Net Revenues | $28,500 |
Cost of sales | $9,000 |
Store operating expenses | $5,500 |
Other operating expenses | $500 |
Depreciation expenses | $1,500 |
General and administrative expenses | $2,000 |
Total Operating Expenses | $9,500 |
Operating income | $19,000 |
Interest income | $500 |
Interest expense | $250 |
Profit Before Taxes | $10,250 |
The first calculation that we must do is to calculate the profit before tax is the total revenue earned by the business. To calculate this, you need to add up the revenue earned from store or stores that you operate and other revenues that you directly earn from running your business. In this case, this would be $25,000 + $3,500 for the first column which equals to $28,500. If you have licensed stores, then you will add the revenue you earn from there to derive the total revenue.
Net Revenues |
|
Company-operated stores | $25,000 |
Others | $3,500 |
Total Net Revenues | $28,500 |
The second calculation is the total operating expenses. In order to calculate the total, you need to add all the expenses associated with running the business. This includes running the store, depreciation expenses, and general and administrative expenses. Simply add up all the expenses and you have the total operating expenses. Let us calculate it for the first column. It would be $5,500 + $500 + $1,500 + $2,000 = $9,500.
Store operating expenses | $5,500 |
Other operating expenses | $500 |
Depreciation expenses | $1,500 |
General and administrative expenses | $2,000 |
Total Operating Expenses | $9,500 |
Next, we will calculate the other income that was earned. For example, in this case the business earned from interest income. Let us continue with the left column where the interest income is $500. Now, we have all the required calculations to come to the profit before tax value.
So, using the formula
PBT = Revenue – Cost of goods sold (or cost of sales) – Operating expenses – Interest expenses,
we can see that:
PBT = $29,000 - $9,000 - $9,500 - $250 = $10,250
We added $500 to the total revenue because interest income was earned and so this should also be a part of the calculation. If there was any gain from other ventures then the value will be added to the revenue as well. In this case, the total profit before tax is $10,250.
Revenue | $28,500 |
Interest income | $500 |
Total Revenue | $29,000 |
Cost of sales | $9,000 |
Operating expense | $9,500 |
Interest expense | $250 |
Profit Before Taxes | $10,250 |
The difference between PBT and EBIT will reveal the debt sensitivity of a business which can be vital for a business owner. Although on surface level, profit before tax and earnings before interest and tax seem similar, they are distinct in how they are calculated and their uses. Here are the top differences you should know between the two.
PBT | EBIT |
PBT or profit before tax is the total profit a business makes before income tax is applied on the revenue. It takes into account the various revenue sources and operating expenses of the business along with the interest expenses. PBT is also called earnings before tax. | EBIT or earnings before interest and taxes measures total profits without the expenses. It doesn’t take into account the interest expenses and tax applied on the income earned. EBIT is also called operating earnings, operating profit, or profit before interest. |
Profit before tax is not a good measure to compare two or more businesses because the nature of their operations can differ which will give a skewed comparison results if they are compared. Hence, it is best for comparing a single business with its past performance. | Earnings before interest and tax is useful when it comes to debts for businesses that require capital. It also enables businesses to compare themselves with other businesses that operate in the same industry and that have to pay tax differently. |
PBT is the taxable income on your income statement. It enables businesses to understand how well revenue is turned into profits and whether they are reaching their goals in that area. This allows the management to take decisions to increase profits and opt for strategies that improve profits. | EBIT is the operating income on your income statement and it throws light on the operational capabilities of your business. This allows you to better understand your full operational potential and then make decisions based on the EBIT value. |
PBT is calculated by adding the total revenue and then subtracting the expenses including interest expenses. If you have already calculated EBIT then you can calculate PBT by subtracting interest expenses from EBIT to get a profit before tax value. | EBIT is calculated by using the total revenue and then subtracting the cost of goods sold and the operating expenses from it. Or you can say that EBIT is the same as gross profit minus the operating expenses. |
PBT calculation has a limitation too and it is that it cannot be used by itself to determine the business performance. For example, profit before tax does not give any indication of the bottom line of companies which makes it difficult to compare businesses. | EBIT’s limitation includes its inability to properly how the company’s earning potential. When a company has a lot of debt, the EBIT will show the earnings in inflated form because it isn’t taking the interest expense into account. This can be problematic if EBIT is being used solely. |
You need a business management software to ensure you are tracking every single expense and every revenue properly. TallyPrime is an accounting software that has the capability to enable you to perform simple calculations as well as complex one. It enables you to easily generate financial statements and more than 400 reports. This allows you to get a detailed look into your business so you can make critical decisions before it is too late. TallyPrime also comes with features such as invoicing, payroll management, cash flow management, security, and much more. It is the ultimate business management tool for MSMEs.