The Meaning of Ledger, General Ledger, Nominal Ledger, and Related Terms
Encyclopedia of Business Terms and Methods, ISBN 978-1-929500-10-9. Revised 2013-12-03.
In bookkeeping and accounting, a ledger is a place for collecting business transaction data from a journal, and organizing entries by account. This item further defines and illustrates the meaning of ledger, in the context of ledger-related terms including
General ledger (Nominal ledger)
Controlling account (Master account)
The ledger provides information on the current balance in each account throughout the accounting period. At the end of the accounting period, ledgers become the primary and authoritative source of data for building a firm's financial accounting reports, including the income statement and balance sheet.
The accounting cycle begins when business transactions are entered into the journal. Transactions include all events that impact any of the company's accounts, such as "cash on hand," or "accounts receivable," or "bank loans payable." Journal entries accumulate in chronological order—the order in which they occur. The second step in the accounting cycle is transferring (posting) journal entries into a ledger or ledgers, where they are organized first by account, and then chronologically within accounts (see Exhibit 1, below).
Historically, journals and ledgers were always bound notebooks in which a bookkeeper hand wrote entries shortly after a sale was closed, an expense was incurred, revenues were received, or any other event occurred that impacted the company's accounts.
Today, of course, journals and ledgers are usually implemented in software as part of an accounting software system, where transaction data are entered manually through onscreen forms or automatically (e.g., by a point of sale system). Most accounting systems provide user guidance and error-checking, to help ensure that the appropriate accounts are impacted, and that debit or credit entries are registered correctly. Software, moreover, automates the second stage of the accounting cycle, posting journal entries to a ledger.
• The ledger in the accounting cycle
• General ledger and sub ledgers, accounts, and debits and credits
– General ledger accounts
– Sub ledgers and controlling accounts (master accounts)
– Account categories and debits and credits
• Example journal and ledger entries
– Journal entries
– Ledger entries
The ledger in the accounting cycle
Exhibit 1 below shows the major steps in the accounting cycle, as practiced where accounting is based on a double entry system (the approach to accounting used by the overwhelming majority of companies and organizations, worldwide). The journal is shown as the initial data entry step for transaction records, and the ledger is shown as the second step. Journal entries are passed (posted) to the ledger, and ultimately build into the organization's financial accounting reports at the end of the accounting cycle.
1. The accounting cycle. Transactions are entered into the journal as the first step in the
Whereas the journal organizes entries chronologically, the ledger organizes entries by account (see the Example section below). The ledger summaries of account transactions are checked for accuracy by computing a trial balance, which should show that across all accounts, total debits equals total credits. If the two totals do not agree, adjusting entries are made and ledger entries are corrected, after which the transaction data are brought into the period's financial accounting reports.
General ledger and sub ledgers, accounts, and debits and credits
The basic building block in a double entry accounting system is the account, which can be defined as a place for recording changes in value (additions and subtractions) for one specific purpose. When transactions are entered into the journal, those making entries are responsible for knowing which accounts to impact and whether the impacts should register as debits or credits (for more on debits and credits, and the double entry approach, see the encyclopedia entry double entry system).
General ledger accounts
The complete list of accounts that can be used for the organization's journal and ledger entries is called its chart of accounts. Every account on this list is represented in the general ledger. The general ledger (or nominal ledger) is therefore viewed as the "top level" ledger.
Each account has a balance, or account value, which can rise and fall as transactions occur. Account summaries in the ledger show at a glance transaction activity for a period of time as well as the current account balance (or, at least, the balance after journal entries were last posted). Anyone asking questions such as "What is the current cash account balance?" or, "Are sales revenues running ahead of expenses?" should find up-to-date answers in the ledger account summaries.
In the ledger, each account is normally displayed in a form called a T-account, as shown in Exhibit 2. Like all members of the chart of accounts, this account is identified with both a number (101) and a
Exhibit 2. A ledger T-account for one account, cash on hand, for several days transactions. Cash on hand is an asset account, and this means that debits increase its balance, and credits decrease its balance. This account, therefore, is said to carry a debit (DR) balance.
Figures under "Debits" and "Credits" were transferred here from the journal. Because cash on hand is an "Asset" account, it carries a so-called Debit balance, meaning that debit entries increase the balance and credit entries decrease the balance.
The T-shaped crossing lines helps implement the double entry system convention, always placing debits on the left and credits on the right, when debits and credits appear together.
Sub ledgers and controlling accounts (master accounts)
Large organizations may implement an accounting system with hundreds of different accounts. In such cases, it may be helpful to use not just one ledger (the general ledger), but use along with it a set of sub ledgers (subsidiary ledgers). A sub ledger is organized and updated in the same way as the general ledger, except that the sub ledger may include only a few accounts from the chart of accounts.
Sub ledgers are used when it is desirable to put initial data management into the hands of people or organizations who are directly engaged in transaction activity. A "Sales Account" sub ledger, for instance, might be created holding only sales-related accounts, such as "Product sales revenues," "Accounts receivable," "Shipping expenses," "Cash receipts from sales," and so on. This sub ledger, moreover, may list information that will not appear in the general ledger, but which is useful to sales managers, identifying transactions by individual sales people for instance, or by individual customers, or by specific product lines, or specific regions, and so on.
When sub ledgers of this kind are used, sub ledger entries are associated with specific accounts in the general ledger. One general ledger account, e.g., "Product sales revenues" can represent the "roll up," or aggregate of several different "Regional product sales revenues" entries from different regional sub ledgers. In such cases, the general ledger account is called the controlling account, or master account for the contributing sub ledger accounts.
Account categories and debits and credits
The kind of impact (debit or credit) that a transaction makes on each ledger account depends on which of five chart of account categories the accounts belong to.
First, there are the so-called "balance sheet" account categories:
1. Asset accounts: Things of value that are owned and used by the business.
Example: Cash on hand
Example: Accounts receivable
2. Liability accounts: Debts that are owed by the business.
Example: Accounts payable
Example: Salaries payable
3. Equity accounts: The owner's claim to business assets.
Example: Owner capital
Example: Retained earnings
Secondly, there are the so-called "income statement" account categories:
4. Revenue accounts: The amounts earned from the sale of goods and services, or investment income, or extraordinary income.
Example: Product sales revenues
Example: Interest earned revenues
5. Expense accounts: Costs incurred in the course of business.
Example: Direct labor costs
Example: Advertising expenses
In practice, even a small organization may list a hundred or more such accounts as the basis for its accounting system, and very large and complex organizations may use many more. Nevertheless, for bookkeeping and accounting purposes, all named accounts fall into one of the five categories above.
Every financial transaction brings as a journal entry, then becomes a ledger entry, with at least two equal and offsetting account changes. The change in one account is called a debit (DR) and the change in another account called a credit (CR). Whether a debit or a credit increases or decreases the account balance depends on the kind of account involved, as shown below in Exhibit 3:
|Debit (DR) Entry ...||Credit (CR) Entry ...|
|Asset account||Increases (adds to) account balance||Decreases (subtracts from) account balance|
|Liability account||Decreases (subtracts from) account balance||Increases (adds to) account balance|
|Equity account||Decreases (subtracts from) account balance||Increases (adds to) account balance|
|Revenue account||Decreases (subtracts from) account balance||Increases (adds to) account balance|
|Expense account||Increases (adds to) account balance||Decreases (subtracts from) account balance|
3: As debits and credits are entered into the journal and ledger for
accounts, the impact of the entry either adds to or subtracts from the current value
(balance) of the accounts. Whether a debit or a credit adds or subtracts value depends
on account category—asset, liability, equity, revenue, or expense. It also depends on
whether or not the account is a contra account within a category.
Suppose, for example, that a company acquires assets valued at $100,000. The journal entry for the acquisition will show that an asset account increases $100,000, perhaps asset account "factory manufacturing equipment." Because this is an asset account, its balance increase is called a debit. However, the balance sheet may now be temporarily out of balance until there is an offsetting credit of $100,000 to another account, somewhere in the system. This could be, for instance:
- A credit of $100,000 to another asset account, reducing that account value by $100,000. This could be the asset account "cash on hand."
- If instead of cash, the asset purchase is financed with a bank loan, the offsetting transaction in the journal entry could be a credit to a liability account such as "bank loans payable," increasing that account value by $100,000.
The debit and the credit from the acquisition will be shown together in the journal entry, but when transferred to the ledger, they will each impact a different account summary (see the journal and ledger entry examples below).
When the journal entry is complete, the basic accounting equation holds and the balance sheet stays balanced:
Assets = Liabilities + Equities
And, for the account journal entries that follow from a single transaction:
Debits = Credits
The bookkeeper or accountant dealing with journal and ledger entries faces one complication, however, in that not all accounts work additively with each other on the primary financial accounting reports—especially on the income statement and balance sheet. There are cases where one account offsets the impact of another account in the same category. These are the contra accounts that "work against" other accounts in their own categories. In some cases, the contra accounts reverse the debit and credit rules in Exhibit 3 above.
For example, an "accounts receivable" account and an "allowance for doubtful accounts" account are both asset accounts. Accounts receivable is said to carry a debit balance, meaning that debits to this account increase the account balance. "Allowance for doubtful accounts," however, is a contra asset account that ultimately reduces the impact (balance) contributed by "accounts receivable." "Allowance for doubtful accounts" carries a credit balance, meaning that its value is increased by a credit transaction. When these journal entries make their way into the ledger and then the financial reports, the balance sheet result is a "net accounts receivable" less than the "accounts receivable" value.
In any case, the bookkeeper or accountant working with journal entries needs to have a complete knowledge of the organization's chart of accounts and a solid command of double entry bookkeeping rules—or else, accounting software that provides clear guidance and good error checking.
Example journal and ledger entries
Journal entries and their contribution to ledger entries are illustrated here for a small subset of one company's chart of accounts, summarized below in Exhibit 4:
|Grande Corporation Chart of Accounts|
|Account No.||Account Name||Account Category|
|101||Cash on hand||Asset|
|410||Product sales revenue||Revenue|
|525||Cost of goods sold||Expense|
|Exhibit 4. Eight accounts from one company's chart of accounts, to illustrate journal and ledger entries in the examples below.|
In reality, of course, the full chart of accounts, journal, and ledger will include many accounts not shown here. However, for one week's activity affecting these accounts, the journal and ledger entries might appear as shown below.
On 1 September, two customers place product orders, on credit. Customer 1 orders $4,200 in products, Customer 2 orders $5,800 in products. Later the same day, the company ships the products.
Journal for Fiscal Year 20YY
110 Accounts receivable
On 2 September, the company places a $1,180 order for office supplies:
125 Supplies inventory
On 5 September, a written check from Customer 1 arrives ($4,200) and the company sends its own check to the office supplies vendor ($1,180) for supplies ordered on 2 September:
101 Cash on hand
For the day 6 September, Customer 2 pays for goods ordered on 1 September with a credit card ($5,800). Customer 3 purchases products with cash ($1,250) and takes immediately delivery. Also on this day, accountants find that the supplies worth $820 have been used up since the last check of the supplies inventory. And, also on the 6th, Customer 4 places a credit order for products ($1,850). This order has not yet shipped by day's end.
101 Cash on hand
A fast scan of the journal entries should make it clear that one part of the accounting equation holds, at least for these entries: Total debits = Total credits. The journal page shows clearly that every journal debit is paired with an equal, offsetting credit. The example also shows, that the journal, like the ledger, follows the double entry system practice of listing debit figures to the left of their companion credit figures.
The journal page does not show so clearly, however, whether or not the company is gaining or losing money. That picture is not fully visualized until the accounting period ends and ledger account balances come together on the income statement. That picture comes a small step nearer, however, when journal entries such as those above are posted in the ledger. The ledger summarizes transactions by account, showing each account's debits and credits. Ledger summaries usually show also how different account balances are running (e.g., balances for expense accounts and balances for sales revenue accounts).
As the second step in the accounting cycle, journal entries are posted to the organization's general ledger and sometimes, also to various sub ledgers as well. The general ledger, as mentioned, is the "top level" ledger, having an account record for every account in the chart of accounts.
Historically, when journals and ledgers were bound notebooks, and entries were hand written, journal data were posted into ledgers only periodically. That meant that account balances were known only through the most recent posting. Software-based accounting systems however, are usually programmed to update ledger accounts frequently or even continuously, so as to keep running account balances at all times, as suggested in Exhibit 4 below.
Account summaries in the ledger are usually presented in the form of T-accounts, as shown above in Exhibit and below in Exhibit 5 for each of the eight accounts from Exhibit 3 and the journal entry examples above.
|Exhibit 5. T-accounts in the general ledger after journal entries have been posted.|