A general ledger is a complete record of a business's financial accounts including assets, equity, liabilities, revenue, and expenses. In the past, businesses used a large book called a ledger to record financial data.
Bookkeeping has since evolved, and business owners now use accounting software. For each account, the general ledger records the starting account balance, credits and debits, and the closing balance.
What Is the Role of a General Ledger?
Business owners use general ledgers to keep a detailed account of each transaction daily, monthly, quarterly, or yearly. These ledgers are important for accountants to keep track of every transaction and account for unexpected balances and errors.
On the other hand, accountants use the general ledger to record and organize financial data that is later used to create financial statements. Transactions are posted to specific sub-ledger accounts defined by the chart of accounts.
All transactions in the general ledger are summarized to generate a trial balance. The trial balance is adjusted, corrected for errors, and additional entries added to generate an adjusted trial balance which is then used to create financial statements.
Types of General Ledger Accounts
The general ledger has several accounts:
- Assets: These include cash, receivables, accounts, inventory, notes receivables, and fixed assets
- Liabilities: Accounts payable, notes payable, accrued expenses
- Equity: Capital, common stock, distributions, paid-in-capital, dividends, treasury stock, retained earning
- Operating revenue: Service fees, sales
- Operating expenses: Salaries, wages, depreciation, rent expense, utilities
- Income and Expenses: Gains and losses on disposable assets, investment income, interest expense
What Does a General Ledger Indicate?
A general ledger compiles and summarizes transaction details to produce a trial balance, balance sheet, income statement, statement of cash flows, and other critical financial reports. Accountants, management, investors, analysts, and other stakeholders use these records to assess a business's financial health.
If there are any transactions such as increased expenses that affect revenue, net income, and other critical financial metrics, it may be difficult to get the whole picture from the financial data. Accountants and bookkeepers go back to the general ledger for detailed information from the recorded transactions.
While it is time-consuming to review hundreds of journal entries, it is crucial to create credible financial statements that are error-free. This also allows businesses to accurately meet their tax obligations and avoid fines and penalties.
Core Concepts of a General Ledger
There are three core concepts within general ledger accounting:
- Double-entry accounting
- Basic accounting
General Ledgers and Double-Entry Bookkeeping
Any business that uses a general ledger uses the double entry method to store financial data. More specifically, double-entry bookkeeping is when a transaction impacts both debit and credit transactions.
Each entry in the general ledger must appear once as a debit and again as a corresponding credit. When added together, both entries should equal zero. A debited income adds to the account’s total while a debited expense decreases the account’s total.
Invoices and receipts can either be credited or debited depending on the type of account. Following the double-entry system:
Assets - Liabilities = Owner’s Equity
If the sum of credits does not equal the sum of debits, the equation does not balance which means there is an error in the general ledger.
If a company receives $500 from a client for goods or services, the accounts would reflect a $500 increase in the asset column and a $500 decrease from accounts receivables. The books remain balanced.
General Ledgers and Journal Entries
Before modern accounting software was invented, bookkeepers used pen and paper to record daily transactions and later transferred these records to the general ledger.
Daily transactions would be recorded in journals which made it easier to analyze the business in detail while the general ledger would be used to look at the business performance in general.
Modern accountants now have accounting software that makes it easier to record daily transactions directly onto the general ledger with minimal errors.
There are 7 types of journals, however, bookkeepers and accountants commonly use these four:
- Sales Journal: The sales journal records credit purchases for customers who did not pay cash for goods or services rendered.
- Purchase Journal: The purchase journal records credit purchases made by the business.
- Cash Receipts Journal: This journal records cash inflow transactions, that is cash paid for goods or services
- Cash Payments Journal: The fourth most common journal is the cash payments journal which records all cash outflows that is cash paid by the business to suppliers, utilities, and rent, among others
The last three journals are:
- Sales Return Journal
- General Journal
- Purchase Return Journal
Why Businesses Need a General Ledger
As a business owner, it is important to keep a general ledger. However, some businesses choose to run their businesses without an accounting system.
If you have been running your business without recording any transactions, here are some reasons why you may want to start keeping a general ledger.
- A general ledger keeps an accurate record of all your financial transactions
- It helps you generate a trial balance to balance your books
- It helps you file your taxes more accurately by recording all expenses and income in one place
- A general ledger reports actual revenue and expenses making it easier to manage your spending
- It also makes it easy to identify fraud
- It can help you identify unusual accounting transactions
- A general ledger helps you generate critical financial reports such as income statements, cash flow statements, and balance sheets which are critical for evaluating profitability, liquidity, and the general financial health of your business
General Ledger Reconciliation
General ledger reconciliation is usually done by a Certified Public Accountant to ensure that the ledger is balanced. Reconciling all transactions ensures that your entries are correctly recorded and keeps your books balanced.
Learn More About a General Business Ledger
Accounting has come a long way with many modern businesses incorporating accounting software systems in their record keeping.
However, it is always best to have a certified accountant look over your books to ensure you comply with tax requirements and keep track of your business’s financial health.
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