Basis of Ledger Account

After we have made accounting entries, we will then summarise them into ledger accounts.

4.1 What Are Ledger Accounts?

Ledger accounts or T accounts are accounts summarising each business transaction. The reason we call these as T accounts is because these accounts have a T shape. We will explore these in a second.

4.2 Ledger Accounts for Cash Transactions

The best way is to go back to the previous Johnson example and see how we link these together.

I will start with cash transactions first.

The first transaction:

Johnson started up a restaurant as a sole trader business by paying $30,000 into a business bank account.

The accounting treatment:

Dr Cash $30,000

Cr Capital $30,000

The ledger or T account for this transaction:

Steps to prepare a ledger or T account:

Step 1: The name of the account. In this case, there are two accounts which are cash on the debit side and capital on the credit side.

Cash account

Capital account

As you can see, this is a T-shaped account. Hence this is called ‘T’ account.

Step 2: Write the Debit or Dr on the left-hand side of the account with Credit or Cr on the right-hand side.

Cash account
Dr	Cr

Capital account
Dr	Cr

Step 3: Read the debit side of the transaction first, and then record the debit side of the transaction on the corresponding account. Write the monetary value first, and then write the credit side on the same account. It may sound difficult, so let’s see how to do this.

Transaction from the above: Dr Cash $30,000 Cr Capital $30,000.

Cash account
Dr		Cr
	$	$
Capital	$30,000 (first)

According to the double entry bookkeeping rule, every debit has a corresponding credit entry. In this case, as we read the debit side of the transaction, Dr Cash, we first record this in the cash account. Then we record the monetary value of $30,000 on the debit side of this account. In this case, I wrote ‘first’ next to the $30,000. Then for the corresponding credit side of the transaction—the capital account—we record that in the ledger account, and I have labelled this the second thing to do. You do not need to follow this order and you still get the correct answer. However, throughout my teaching experience instructing many students across the globe, I found this method most straightforward for those first-time learners.

Step 4: Read the credit side of the transaction, then record the credit side of the transaction on the corresponding account. Record the monetary value first, then write the debit side on the same account. Again, the transaction is as follows: Cr Capital $30,000 Dr Cash $30,000.

Cash account
Dr			Cr
	$		$
		Cash (second)	30,000 (first)

Here we go; that is how we prepare the T account for the first transaction.

4.2.1 A Complete Ledger Account

Let me expand your T account knowledge a little bit further before we go through the second transaction.For many businesses, the ledger account may not be in ‘T’ shape because a simple T shape account may lack critical information. A typical ledger account looks like this:

Title of Account
Debit				Credit
Date	Details	Folio	Total $	Date	Details	Folio	Total $

The title of the account is a name that represents the nature of the transaction, for example, ‘van account’; ‘bank account’ etc
The date column records the date of the transaction.
The details column records the title of the other account that holds the second part of the dual effect
The folio column records a reference to the source of information, for example, ‘purchase day book p25’. This column is not always included within a ledger account.
The amount column summarises the monetary value of the transaction.

Those previous T accounts did not show the date and folios. For business control purposes, the full account can be used so that accountants can always trace transactions back to the accounting books.

Accounting books refer to books of prime entry. These are just the books or records summarising similar transactions together, instead of writing out a journal entry like Dr and Cr whenever the transaction takes place. This frees up much of the accountant’s time and enables them to spend more time analysing business performance. However, remember, the journal entry is also the example of the books of prime entry. I will explain the books of prime entry in later studies.

4.2.2 Steps to Prepare a Ledger Account

Step 1: Account name.

Step 2: Debit on the left-hand side and credit on the right-hand side.

Step 3: Read the debit side, with monetary value, and then the credit side of the transaction in the same account.

Step 4: Read the credit side, with monetary value, and then the debit side of the transaction in the same account.

Let’s apply these steps again to the second transaction.

The second transaction:

Johnson purchased a van for deliveries by writing a cheque for $3,000.

The accounting treatment:

Dr Van $3,000

Cr Cash $3,000

The ledger or T account for this transaction:

Step 1: Account name.

Cash account

Van account

Step 2: Debit on the left and credit on the right.

Cash account
Dr	Cr

Van account
Dr	Cr

Step 3: Read the debit side, with monetary value, and then the credit side of the transaction in the same account.

Van account
Dr		Cr
	$
Cash (second)	30,000 (first)

Step 4: Read the credit side, with monetary value, and then the debit side of the transaction in the same account.

Cash account
Dr		Cr
		$
	Van (second)	$,000 (first)

A summary of T accounts for transaction 2:

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000

Van account
Dr			Cr
	$		$
Cash	3,000	Van	3,000

Balances should be accumulated. For instance, $3,000 cash is reduced to reflect the fact that Johnson spent $3,000 cash out, but there should be money coming in first, i.e., Johnson input $30,000 cash into the business. Hence, the remaining cash balance after the first and second transactions took place is $27,000 ($30,000 coming in and $3,000 going out).

Practice makes perfect, and from the next transaction onwards, I am not showing these four steps. You need to practise them on your own. What I can do is to give you the T account only for this transaction with the accumulated effect.

The third transaction:

Johnson used a cheque for $1,000 to purchase goods for resale.

The accounting treatment:

Dr Purchases $1,000

Cr Cash $1,000

The ledger or T account for this transaction:

Purchases account
Dr		Cr
	$
Cash	1,000

Cash/Bank account
Dr		Cr
		$
	Purchases	1,000

The cumulative effect on the T account after the first to third transactions taking place:

Purchases account
Dr		Cr
	$
Cash	1,000

Cash/Bank account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
		Purchases	1,000

Just a quick note here: Johnson has $26,000 cash left in the business because he spent only a total of $4,000 in buying a van and goods for resale from the original $30,000 cash.

The fourth transaction:

Johnson paid the rental fee in cash for $800.

The accounting treatment:

Dr Rents $800

Cr Cash $800

The ledger or T account for this transaction:

Rents account
Dr		Cr
	$
Cash	800,00

Cash account
Dr		Cr
		$
	Rent	800,00

The cumulative effect on the T account after the first to fourth transactions took place:

Rents account
Dr		Cr
	$
Cash	800,00

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
		Purchases	1,000
		Rent	800,00

The fifth transaction:

Johnson sold goods for cash of $2,000.

The accounting treatment:

Dr Cash $2,000

Cr Sales revenue $2,000

The ledger or T account for this transaction:

Cash account
Dr		Cr
	$
Sales	2,000

Sales revenue account
Dr		Cr
		$
	Cash	2,000

The cumulative effect on the T account after the first to fifth transactions took place:

Sales revenue account
Dr		Cr
		$
	Cash	2,000

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
		Rent	800,00

The sixth transaction:

Johnson took $200 cash for his personal expenses.

The accounting treatment:

Dr Drawings $200

Cr Cash $200

The ledger or T account for this transaction:

Drawings account
Dr		Cr
	$
Cash	200

Cash/Bank account
Dr		Cr
		$
	Drawings	200

The cumulative effect on the T account after the first to sixth transactions took place:

Drawings account
Dr		Cr
	$
Cash	200

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
		Rental	800
		Drawings	200

As you can see in the last cash account, the cash left for Johnson totals $27,000, because there were $32,000 inflows with $5,000 outflows in acquiring a van, goods for resale, paying rent and personal expenses.

4.3 Ledger Accounts for Credit Transactions

Now let’s see how to prepare ledger accounts for the previous credit transactions.

Transaction 1:

Johnson purchased goods on credit for $5,000.

The accounting treatment:

Dr Purchases $5,000

Cr Trade payables $5,000

The ledger or T account for this transaction:

Purchases account
Dr		Cr
	$
Payable	5,000

Trade Payables account
Dr		Cr
		$
	Purchases	5,000

The cumulative effect on the T account after the first transaction took place:

Purchases account
Dr		Cr
	$
Cash	1,000
Payable	5,000

Payables account
Dr		Cr
		$
	Purchases	5,000

Transaction 2:

Johnson sold goods for $6,000 to customers on credit.

The accounting treatment:

Dr Trade receivables $6,000

Cr Sales revenue $6,000

The ledger or T account for this transaction:

Trade receivables account
Dr		Cr
	$
Sales	6,000

Sales revenue account
Dr		Cr
		$
	Receivable	6,000

The cumulative effect on the T account after the first and second transactions took place:

Trade receivables account
Dr		Cr
	$
Sales	6,000

Sales revenue account
Dr		Cr
		$
	Cash	2,000
	Receivable	6,000

Transaction 3:

Johnson has settled $1,000 liability owed to a credit supplier.

The accounting treatment:

Dr Trade payables $1,000

Cr Cash $1,000

The ledger or T account for this transaction:

Payable account
Dr		Cr
	$
Cash	1,000

Cash account
Dr		Cr
		$
	Payable	1,000

The cumulative effect on the T account after the first to third transactions took place:

Payable account
Dr			Cr
	$		$
Cash	1,000	Purchases	5,000

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
		Rental	800
		Drawings	200
		Payable	1,000

Transaction 4:

Johnson received $5,000 cash from a credit customer.

The accounting treatment:

Dr Cash $5,000

Cr Trade receivables $5,000

The ledger or T account for this transaction:

Cash account
Dr		Cr
	$
Trade Receivables	5,000

Trade receivables account
Dr		Cr
		$
	Cash	5,000

The cumulative effect on the T account after the first to fourth transactions took place:

Cash account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
Receivable	5,000	Rental	800
		Drawings	200
		Payable	1,000

Trade receivables account
Dr			Cr
	$		$
Sales	6,000	Cash	5,000

Transaction 5:

Johnson returned goods costing $200 to the credit supplier.

The accounting treatment:

Dr Trade payables $200

Cr Purchases $200

The ledger or T account for this transaction:

Cash account
Dr		Cr
	$
Purchases	200

Trade receivables account
Dr		Cr
		$
	Trade Payables	200

The cumulative effect on the T account after the first to fifth transactions took place:

Trade payable account
Dr			Cr
	$		$
Cash	1,000	Purchases	5,000
Purchases	200

Purchases account
Dr			Cr
	$		$
Cash	1,000	Trade Payables	200
Payable	5,000

Transaction 6:

Johnson received goods returned by a credit customer. The transaction value is $100.

The accounting treatment:

Dr Sales revenue $100

Cr Trade receivables $100

The ledger or T account for this transaction:

Trade receivables account
Dr		Cr
		$
	Sales	100

Sales revenue account
Dr		Cr
	$
Trade receivables	100

The cumulative effect on the T account after the first to fifth transactions took place:

Trade receivables account
Dr			Cr
	$		$
Sales	6,000	Cash	5,000
		Sales	100

Sales revenue account
Dr			Cr
	$		$
Trade receivables	100	Cash	5,000
		Sales	100

4.4 Balancing a Ledger Account

The owner needs to know how much cash is still left, or how much has been spent on purchases, etc. These can be found by balancing the ledger accounts.

Steps to balance a ledger or T account are shown as follows:

Step 1: Enter the total debit and credit sides in the T account.

Step 2: Decide which side is higher and choose the higher.

Step 3: For the side that does not add up to this total, the difference is called balance carried down/forward, or ‘bal c/d’ or ‘bal c/f’.

Step 4: The balance brought down (‘bal b/d’) will appear on the opposite side below the totals.

4.4.1 Balancing Ledger Accounts for Elements in the Statement of Financial Position

Again, let’s balance ledger or T accounts for Johnson from the previous examples.

Capital account
Dr		Cr
		$
	Bank	30,000

Step 1: Only $30,000 shows on the credit side of the capital account. Hence, the total credit side is $30,000.

Capital account
Dr		Cr
		$
	Bank	30,000
	Total =	30,000

Step 2: The credit side of the capital account is higher than the debit side because the debit side is 0 in this case. Hence, we will use the credit side amount of $30,000 on the debit side as well.

Capital account
Dr			Cr
	$		$
		Bank	30,000
Total =	30,000	Total =	30,000

Step 3: Force both sides to balance. In this case, there is nothing on the debit side, but the debit side total should be $30,000. Hence there is a balance carried forward on the debit side.

Capital account
Dr			Cr
	$		$
Balance carried forward	30,000	Bank	30,000
Total =	30,000	Total =	30,000

We usually use the abbreviation for balance carried forward as ‘bal c/f’ or balance carried down as ‘bal c/d’:

Capital account
Dr			Cr
	$		$
bal c/d	30,000	Bank	30,000
Total =	30,000	Total =	30,000

Alternatively:

Capital account
Dr			Cr
	$		$
bal c/f	30,000	Bank	30,000
Total =	30,000	Total =	30,000

Step 4: The balance brought down, or balance brought forward would appear on the opposite side below the totals. We usually use abbreviations like ‘bal b/d or ‘bal b/f’.

Capital account
Dr			Cr
	$		$
bal c/f	30,000	Bank	30,000
Total =	30,000	Total =	30,000
		bal b/f	30,000

Or:

Capital account
Dr			Cr
	$		$
bal c/f	30,000	Bank	30,000
Total =	30,000	Total =	30,000
		bal b/f	30,000

Capital account
Dr			Cr
	$		$
bal c/f	30,000	Bank	30,000
	30,000		30,000
		bal b/f	30,000

Now, as an exercise, please complete the following ledger or T accounts on your own, applying the above four-step approach.

Van account
Dr		Cr
	$
Bank	3,000

Drawings account
Dr		Cr
	$
Bank	200

Cash/Bank account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
Receivable	5,000	Rental	800
		Drawings	200
		Payable	1,000

Receivable account
Dr			Cr
	$		$
Sales	6,000	Bank	5,000
		Sales return	100

Payable account
Dr			Cr
	$		$
Cash	1,000	Purchases	5,000
Sales	6,000

Let’s check the answers for the above ledger or T accounts:

Van account
Dr			Cr
	$		$
Bank	3,000	Bal c/d	200
Bal b/d	3,000

Drawings account
Dr			Cr
	$		$
Bank	200	Bal c/d	200
Bal b/d	200

Cash/Bank account
Dr			Cr
	$		$
Capital	30,000	Van	3,000
Sales	2,000	Purchases	1,000
Receivable	5,000	Rental	800
Bal b/d	31,000	Drawings	200
		Payable	1,000
		Bal c/d	31,000
			37,000

Receivable account
Dr			Cr
	$		$
Sales	6,000	Bank	5,000
Bal b/d	900	Sales return	100
		Bal c/d	900

Payable account
Dr			Cr
	$		$
Cash	1,000	Purchases	5,000
Purchase return	200	Bal c/d	3,800
Bal c/d	3,800

4.4.2 Balancing Ledger Accounts for Elements in the Statement of Profit or Loss

Now, let’s see ledger accounts for sales and expenses. Just a recap from the previous studies first: if Johnson has sold goods to customers, this means the sales revenue increases and appears on the credit side of the double entry. If Johnson pays for something, i.e., goods or other rent expenses, the expense increases, thus appearing on the debit side of the double entry. Sales revenue and expenses are only for the current accounting period and should not be accumulated to the next year’s accounts. Say for example, if Johnson made $7,900 sales in this year, it cannot be carried forward to the next year. Hence from the next year start, the sales revenue will be set as zero. Let’s look at the following example:

Sales revenue account
Dr			Cr
	$		$
Receivable	$100	Bank	$2,000
		Receivable	$6,000

Step 1: Enter the debit and credit sides of the account.

Sales revenue account
Dr			Cr
	$		$
Receivable	100	Bank	2,000
		Receivable	6,000
Total	100	Total	8,000

Step 2: Decide which side is higher. In this case, the credit side. Hence, we will use $8,000 on both sides.

Step 3: Force the debit side to balance.

Sales revenue account
Dr			Cr
	$		$
Receivable	100	Bank	2,000
Balance*	7,900	Receivable	6,000
Total	8,000	Total	8,000

As you can see, the $7,900 is not called balance carried forward, and no balance is brought forward to the next year either. The $7,900 balance appears on this year’s statement of profit or loss as the current year’s sales revenue:

Sales revenue account
Dr			Cr
	$		$
Receivable	100	Bank	2,000
Profit or loss (P/L)	7,900	Receivable	6,000
Total	8,000	Total	8,000

Finally, practice the following ledger or T accounts on your own for purchases and expense:

Purchases account
Dr			Cr
	$		$
Bank	1,000	Payable	200
Payable	5,000

Rents account
Dr		Cr
	$	$
Bank	800

The answer to the above two accounts is as follows:

Purchases account
Dr			Cr
	$		$
Bank	1,000	Payable	200
Payable	5,000	bal (P/L)*	5,800

Rents account
Dr			Cr
	$		$
Bank	800	bal (P/L)*	800

*bal (P/L) means the balance for this account is entered into the current year’s statement of profit or loss as an expense.

4.5 Quick Summary of This Chapter

What are ledger accounts? Ledger accounts are accounts summarising each business transaction.
Steps to prepare a ledger account:
Step 1: Account name.
Step 2: Debit on the left and credit on the right.
Step 3: Read the debit side.
Step 4: Read the credit side.

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Categories: : Financial Accounting (FA)