0452 · 3.4Control accounts

Control accounts and their purposes

0:00A business might sell to dozens of customers and buy from several suppliers. Checking every individual account takes time, but the owner also needs reliable totals. This video covers the purposes of control accounts and the books of prime entry that supply their entries. It then works through every entry, both kinds of balance and the impact of digital recording. We will prepare both accounts for Rowan’s Stationery and explain why each entry belongs on its particular side.

0:25Trade receivables are amounts owed by credit customers who have not yet paid for goods or services. Trade payables are amounts owed to suppliers for goods or services bought on credit. The sales ledger contains individual credit customers’ accounts, while suppliers’ individual accounts belong in the purchases ledger. Each account records transactions with one particular customer or supplier. Control accounts are summary accounts in the nominal ledger that total all the individual accounts in the sales ledger or purchases ledger.

0:54The nominal ledger contains the business’s general accounts. A sales ledger control account summarises customers’ accounts, while the purchases ledger control account summarises suppliers’ accounts. Think of each as a combined account for a whole group. Double entry means every transaction is recorded as a debit in one account and a credit of the same amount in another. A debit increases an amount receivable, while a credit reduces it. For amounts payable, a credit increases the obligation and a debit reduces it.

1:22These relationships explain the entries without a separate rule to memorise for every transaction. The purposes of purchases ledger and sales ledger control accounts include checking the arithmetical accuracy of the ledger. Comparing independently prepared totals can reveal a disagreement and help locate errors to one ledger. They also provide totals of trade receivables and trade payables quickly for the financial statements. Financial statements are summaries that show a business’s profit or loss for a period and what it owns and owes at a date.

1:51Control accounts can also reduce fraud through separation of duties. One employee can maintain individual accounts while another prepares the summary from independent records. Concealing an unauthorised alteration then becomes harder because another employee checks the totals. Agreement is useful evidence, but it does not prove that every transaction was recorded correctly.

Books of prime entry

2:11A book of prime entry is where a transaction is first recorded from its source document before it is posted to the ledger. We use the books of prime entry as sources of information for the control account entries. Credit sales come from the sales journal, and credit purchases come from the purchases journal. The respective returns journals supply sales returns and purchases returns. The cash book records money received and paid, including receipts from customers and payments to suppliers.

2:38Cash discount is an allowance for paying early within the credit period. The discount columns of the cash book supply these amounts, with discount allowed given to customers and discount received obtained from suppliers. Dishonoured cheques also come from the cash book because an earlier bank receipt must be reversed. The general journal records transactions that do not belong in the other books of prime entry. It supplies irrecoverable debts, contra entries and interest on overdue accounts, because none of these involves money moving.

3:05Every refund comes from the cash book instead, because money is paid to a customer or received from a supplier.

Sales ledger control account entries

3:11For Rowan’s Stationery, credit sales increase the amount customers owe. Revenue is the income a business earns from its main activity, such as selling goods or providing services. Debit the sales ledger control account and credit the sales account because the claim against customers rises and sales revenue is earned. Receipts from customers are posted the other way round, with bank debited and the sales ledger control account credited. Money at the bank rises, and customers owe less.

3:38Sales returns are goods returned by customers to the business. Debit the sales returns account and credit the sales ledger control account because returned goods reduce sales and the customer’s obligation. Expenses are the costs used up in running the business and earning revenue during a period. Discount allowed is an expense because the business accepts less from its customer. So the discount allowed account is debited and the sales ledger control account credited.

4:04Irrecoverable debts are amounts owed by customers that the business considers uncollectable. Rowan’s Stationery writes off four hundred and fifty dollars owed by a customer who has stopped trading. Debit the irrecoverable debts account and credit the sales ledger control account. The reason is that an irrecoverable debt is an expense, and the amount customers owe falls. A dishonoured cheque is a cheque that the bank refuses to pay. Rowan’s Stationery initially recorded a customer receipt of three hundred dollars, but the cheque was dishonoured.

4:32Debit the sales ledger control account and credit the bank account because the customer still owes that amount and the bank receipt disappears. This restores three hundred dollars to the customer claim. Interest on overdue accounts is an additional charge for late payment. Rowan’s Stationery charges customers one hundred dollars of interest. Customers now owe more, and the business earns interest, so the sales ledger control account is debited and the interest received account credited.

4:58This is other income, rather than revenue from selling stationery. In control accounts, a contra entry sets off an amount receivable against an amount payable to the same business. This differs from a cash book contra, which moves money between cash and bank. Rowan’s Stationery both sells to and buys from Harbour Supplies, and they agree to set off five hundred dollars. Debit the purchases ledger control account and credit the sales ledger control account because both balances fall without any bank payment.

5:26Customers normally have debit balances, but an overpayment can produce a credit balance. That credit means the business owes money back to a customer. One customer overpaid by two hundred dollars, and Rowan’s Stationery refunds that amount. The refund requires a debit to the sales ledger control account and a credit to bank. This removes the obligation to the customer, and money at the bank falls.

Preparing the sales ledger control account

5:48We can now prepare the sales ledger control account for May. Opening debit balances total four thousand dollars, while opening credit balances total two hundred dollars. That credit balance is the overpaid customer refunded during May. Keep the opening balances separate because most customers owe the business money, while a few are owed money by it. During May, credit sales total six thousand dollars. The debit entries are four thousand dollars brought down, these sales, and three hundred dollars for the dishonoured cheque.

6:16Add one hundred dollars of interest and the two hundred dollar refund. Four thousand plus six thousand plus three hundred plus one hundred plus two hundred equals ten thousand six hundred dollars. On the credit side, include the opening credit balance of two hundred dollars and receipts from customers of seven thousand dollars. Sales returns are four hundred dollars, discount allowed is two hundred and fifty dollars, and irrecoverable debts are four hundred and fifty dollars.

6:41The contra entry contributes five hundred dollars. Two hundred plus seven thousand plus four hundred plus two hundred and fifty plus four hundred and fifty plus five hundred equals eight thousand eight hundred dollars. At the end of May, individual customers’ credit balances total one hundred and fifty dollars. A closing credit balance goes on the debit side as balance carried down. Ten thousand six hundred plus one hundred and fifty equals ten thousand seven hundred and fifty dollars.

7:07Subtract eight thousand eight hundred dollars, and the closing debit balance is one thousand nine hundred and fifty dollars. The closing debit balance goes on the credit side as balance carried down. Eight thousand eight hundred plus one thousand nine hundred and fifty equals ten thousand seven hundred and fifty dollars. Both sides now total ten thousand seven hundred and fifty dollars. On the first of June, bring down one thousand nine hundred and fifty dollars on the debit side and one hundred and fifty dollars on the credit side.

Purchases ledger control account

7:36The purchases ledger control account follows the same reasoning from the supplier’s perspective. For credit purchases, debit purchases and credit the purchases ledger control account because the cost of goods bought for resale rises and suppliers are owed more. Paying suppliers requires a debit to the purchases ledger control account and a credit to bank. The obligation falls, and money leaves the bank. Purchases returns are goods returned by the business to suppliers.

8:01Debit the purchases ledger control account and credit purchases returns because the supplier obligation falls and the recorded purchase cost is reduced. Discount received is income because the business settles its liability for less than the amount owed. The purchases ledger control account is therefore debited, with the discount received account credited. Suppose suppliers charge Rowan’s Stationery two hundred dollars of interest for late payment. Debit the interest expense account and credit the purchases ledger control account because a financing cost arises and suppliers are owed more.

8:33Like any interest on overdue accounts, this entry comes from the general journal. It is an expense of the business, not part of the cost of goods. A supplier can also owe the business money after an overpayment, and that produces a debit balance in the purchases ledger. Rowan’s Stationery overpaid one supplier by one hundred and fifty dollars and receives that refund. Debit bank and credit the purchases ledger control account because money arrives and the supplier no longer owes the business anything.

8:59For May, the purchases ledger opens with debit balances of one hundred and fifty dollars and credit balances of three thousand five hundred dollars. The debit balance is the overpaid supplier who later refunds it. Credit purchases total five thousand five hundred dollars. Payments to suppliers are six thousand dollars, and purchases returns are three hundred dollars. Discount received is one hundred dollars, and the same contra entry is five hundred dollars.

9:26The debit side combines the opening claim against suppliers with reductions in amounts payable. One hundred and fifty plus six thousand plus three hundred plus one hundred plus five hundred equals seven thousand and fifty dollars. Each payment, return, discount or contra reduces an obligation to suppliers. The contra appears here as a debit because it clears part of the amount payable. Credit entries include three thousand five hundred dollars brought down and five thousand five hundred dollars of purchases.

9:53Add two hundred dollars of interest and the supplier refund of one hundred and fifty dollars. Three thousand five hundred plus five thousand five hundred plus two hundred plus one hundred and fifty equals nine thousand three hundred and fifty dollars. The refund clears the opening debit balance against that supplier. Closing debit balances are two hundred and fifty dollars, so place this amount on the credit side as balance carried down.

10:16Nine thousand three hundred and fifty plus two hundred and fifty equals nine thousand six hundred dollars. Subtract seven thousand and fifty dollars to find the closing credit balance. The result is two thousand five hundred and fifty dollars. Put the closing credit balance on the debit side as balance carried down. Seven thousand and fifty plus two thousand five hundred and fifty equals nine thousand six hundred dollars. Both sides therefore total nine thousand six hundred dollars.

10:43On the first of June, bring down two hundred and fifty dollars as a debit and two thousand five hundred and fifty dollars as a credit.

Digital records and examination tips

10:50Digital recording of business transactions changes both the preparation and use of control accounts. Software can produce them automatically from the same inputs as individual accounts, updating totals whenever a transaction is entered. This reduces arithmetic errors and provides current information quickly. However, an incorrect input can appear consistently in both the individual account and the summary. For example, selecting the wrong customer can leave the overall receivables total unchanged.

11:18Automated agreement would not reveal that the wrong person’s account was updated. Businesses still need accurate documents, controlled access and checks on data entry. Separation of duties remains useful even when computers perform the calculations. Common examination mistakes involve cash sales, cash purchases, refunds and abnormal balances. Include only credit sales and credit purchases because cash transactions create no outstanding customer or supplier balance. Record discount allowed against receivables and discount received against payables.

11:49Keep debit and credit balances separate, and place each balance carried down on the side opposite its balance brought down. Paper One contains forty multiple-choice questions, while Paper Two contains five compulsory structured questions. Prepare means present information in a suitable format, so use a correctly headed account with entries on the appropriate sides. Calculate means work out from given figures. Explain means give reasons why and how, supported by evidence.

12:17Consider an examination question asking you to explain the entries for a dishonoured customer cheque. Debit the sales ledger control account because the customer still owes the amount previously treated as paid. Credit the bank account because the unsuccessful receipt must be reversed. These reasons identify both the restored customer claim and the reduction in the recorded bank balance. A control account summarises individual accounts, but its entries still follow ordinary double entry.

12:44Sales ledger debit balances normally represent customer claims, while purchases ledger credit balances normally represent supplier obligations. Returns, discounts, interest, refunds and contra entries belong on the side that reflects their effect on those claims or obligations. Independent information and accurate inputs make the summary useful for checking records and obtaining totals.