The fourth article of our series on sales and purchases.
Study Tips: Sales and purchases series
- Sales and purchases 1: Buying and selling
- Sales and purchases 2: Documentation behind buying and selling
- Sales and purchases 3: Difference between cash and credit transactions
- Sales and purchases 4: Sales and purchases in double entry bookkeeping
- Sales and purchases 5: Cash and credit transactions in double entry bookkeeping
We are going to look at sales and purchases in double entry bookkeeping systems.
Before we progress, it is vital to have understood the business basics covered in part one and part two. Also the similarities as well as differences between cash and credit transactions discussed in part three.
What is the difference between sales, sales ledger and the sales ledger control account?
Let’s start with sales, also known as revenue or turnover, meaning the amount of money earnt by a business from selling goods and services. Every time we sell something our sales revenue increases and we need to record our sales activity. This happens in the ‘Sales’ account in the general ledger of an accounting system, and it is this account that we often get confused about. Firstly we must be clear that it is an account as opposed to a ledger. A ledger is a group of accounts and ‘Sales’ is a single account within the group known as the general ledger. Then we need to know the ‘Sales’ account is categorised as an income account and its purpose is to record the sales revenue. It starts each financial year with a nil balance which then increases every time a sale is entered.
Remember the ‘Sales’ account must not be confused with the ‘Bank’ account, as it only records the net value of the sales not the actual receipt of the money, which will include VAT.
If we continue with our example of Emily selling stationery to Adam and first look at it as a cash sale we can see how it works.
If you recall a cash transaction means that the money changes hands at the point of sale. Adam paid on his debit card but remember the method of payment is unimportant. The crucial point is that Emily will have received the money straight away. We ignore the banks’ processing time.
Put into T accounts, the entries in Emily’s accounting system would be:
In a cash sale the value of the net sale is recorded in the ‘Sales’ account and the payment is received into the bank account immediately.
Now let’s look at the same sale but made on a credit basis
The value of the sale remains the same. The method of payment is still unimportant. The difference is that Adam has 14 days from the invoice date to pay.
It is this timing difference that means our accounting entries have to be different. The transaction is no longer completed in one go. We make the sale now and then we have to wait before we receive the money. Therefore our accounting entries have to take place in two stages too.
The first stage is still recording the sale in the general ledger accounts. Let’s look at what we did for a cash sale and compare it to a credit sale:
As Emily hasn’t been paid straight away she needs to record that Adam will pay her in 14 days’ time instead. This is where the sales ledger and sales ledger control account (SLCA) come in.
What is the sales ledger?
We have already said a ledger is a group of accounts. The sales ledger therefore is the group of individual credit customer accounts. Adam will have an individual account in Emily’s sales ledger that records all her sales activity with him – invoices when he buys stationery, credit notes if he returns anything and payments when he settles his account. The sales ledger is not part of the double entry system though. Double entry only takes place between accounts in the general ledger and this is why the sales ledger is also known as a subsidiary ledger. All the entries made into sales ledger accounts will be memorandum postings, which are repeats of the actual double entry postings that will occur in the SLCA.
The sales ledger control account
We can turn the long title to our advantage by using it to help us understand what it is, in other words, the account that controls and summarises the activity in the sales ledger. The SLCA is a general ledger account and like all accounts in the general ledger, it is part of the double entry system. It contains all the entries related to the credit sales process – sales, sales returns, discounts allowed, receipts etc.
If we look to our credit sale, the SLCA will replace the Bank account in the first stage as the account Emily needs to use to record that Adam owes her the value of the invoice:
The double entry is complete but we still need to post the memorandum entry into Adam’s account in Emily’s Sales Ledger:
Now we have to wait for the agreed amount of time because delaying payments for goods or services in accordance with legally binding agreements is what makes transactions credit transactions.
In Emily’s case she agreed Adam could pay 14 days after the invoice date. So when he does, the second stage has be performed in the accounts. This involves recording several steps:
- The receipt in the Bank
- The decrease in the balance in the SLCA
- The fact that Adam has paid the invoice in his individual account
The credit sale is now complete and if you look at the accounts that have balances on them you will see they are exactly the same as they were at the end of the cash sale process. This is because at the end of the day a sale is a sale and the only difference between a cash and credit sale is timing. However, the implications of that difference for the accounting system are significant – a two-step process and the introduction of the sales ledger and SLCA.
We’ll look at this in slightly more detail in the last article of this series when we focus on purchases.
Gill Myers is a self-employed accounts consultant. She has taught AAT qualifications since 2005 and written numerous articles and e-learning resources.