The general ledger (GL) is the backbone of financial record-keeping for businesses. It's the single source of truth for accountants and bookkeepers or finance teams tasked with "balancing the books" and contains all the information needed to produce important financial statements.
This guide explains how a general ledger works, the different types of GL accounts, and the various financial reports that rely on the GL for accurate data.
What is a general ledger?
A general ledger is a record-keeping system for your business's financial transactions. It collates and categorises the money moving through your business as revenue, expenses, assets, liabilities and equities.
How does a general ledger work?
A general ledger is an accounting foundation for storing and organising financial data. Based on double-entry accounting, each transaction is recorded as a debit and credit to help minimise bookkeeping errors (these accounts must always equal one another).
Here's a detailed look at how a general ledger works:
Record financial transactions as double-entry transactions called "journal entries".
Once recorded, sort transactions into GL and sub-ledger accounts.
Post and summarise transactions in the general ledger.
Generate a trial balance to validate the balance of all accounts in the general ledger.
Check the trial balance for errors and make any adjustments by posting additional entries. Use the adjusted trial balance to generate financial statements.
Types of accounts in a general ledger
A general ledger separates transactions into five 'buckets' or accounts: assets, liabilities, equity, revenue and expenses. A sub ledger is a subset of the general ledger. For example, you might have separate sub ledgers for specific client accounts.
Assets
Assets are things your business owns or partially owns, including cash, inventory, equipment or real estate. For example, if your company has $25,000 in cash, $50,000 in inventory and $100,000 in equipment, your total assets are $175,000.
Liabilities
A liability is any money or other debt you owe, including loans or accounts payable. For example, if your business has $25,000 in cash flow lending and $5,000 in credit card debt, your total liabilities are $30,000.
Owner's equity
Equity is the difference between assets and liabilities and represents the share of your business. If your company has $175,000 in total assets and $30,000 in liabilities, the equity would be $145,000.
Operating revenue
Operating revenue is the money coming into your business from your primary business activities, like sales of goods or services. It's usually the first type of revenue reported on your income statement.
Operating expenses
Operating expenses (or OPEX) are the costs of keeping your business running, like rent, utilities, wages and inventory. For some companies, the cost of goods sold (COGS) is listed as a sub-category of operating costs to help understand how much they spend to source, store and sell their products.
Non-operating income and expenses
Non-operating (or peripheral) income is the portion of money not generated by your core business activities. Examples include dividend income or investment profits and losses. Similarly, non-operating expenses are business expenses that don't relate to the day-to-day functioning of your business, like interest charges.
Why use a general ledger?
Without an accurate record of transactions, it's difficult for any business to manage its finances effectively. The general ledger is the primary source of financial data for all other accounting processes and their outcomes.
There are three main reasons why accountants use general ledgers:
1. Accurate and transparent record
The general ledger records all business transactions chronologically and systematically so you can trace each entry back to its origin. The GL provides a transparent financial trail, particularly vital during external audits. Many industries must comply with strict financial regulations, and the general ledger ensures businesses meet any necessary standards.
2. Prepare financial statements and reporting
With every financial transaction consolidated in one system, it's easy for accountants and bookkeepers to create core financial statements like balance sheets, income statements also known as profit and loss statements and cash flow statements. You can analyse cost structures, revenue trends and profitability through the general ledger to better understand your business's success and challenges.
3. Access real-time insights into business performance
Lastly, the general ledger enables you to make informed, data-driven decisions. You can use past financial data to create more precise general, financial or sales forecasts. The general ledger can also help you identify any financial vulnerabilities, such as increasing debt or declining sales, and proactively find ways to mitigate them.
What does a general ledger do, and what is recorded?
A general ledger provides accurate and complete data essential for financial reporting and business analysis.
There are two ways a general ledger does this:
Central point for accounting data
Primarily, a general ledger pulls all financial data into one central place, making tracking information easier and simpler for planning business needs. For example, how to price a product or what business finance you need to achieve the goals set in your financial plan.
A record of all financial transactions within a business
Every transaction your business makes, whether a purchase, sale or payment, gets chronologically recorded in the general ledger. This data becomes the foundation for all subsequent accounting processes and reports.
The transaction details within a general ledger are summarised at various levels to produce trial balances needed to create many financial reports that assess the performance of your business, including:
Creation of income statement
To create an income statement, you need a summary of all income and expenses during a particular period. You can pull this information from a general ledger because it records your sales revenue, operating costs, non-operating income and expenses. With an income statement, you can calculate net income or net profit.
Creation of balance sheet
You can produce your balance sheet using a general ledger's assets, liabilities and equity account balances. This report provides a snapshot of your business's financial position at a point in time, the resources you have available and your financial obligations to others.
Creation of cash flow statements
The general ledger helps configure cash flow statements by storing and tracking cash-related transactions and providing insight into your cash flow management — how and where cash is moving in and out of your business from operating, investing and financing activities.
General ledger FAQs
What is the difference between a general ledger and a balance sheet?
A general ledger is a record of all your business's financial transactions. A balance sheet uses asset, liability and equity information from the general ledger to show your business's net worth during a particular period.
How does a general ledger function with double-entry accounting?
In double-entry bookkeeping, financial transactions get recorded as debit and credit transactions in the general ledger. Double-entry transactions are called "journal entries", with debit entries on the left and credit entries on the right. The total of all debit and credit entries must balance.
What role does a trial balance play in a general ledger?
A trial balance validates that all general ledger accounts are in balance after recording debit and credit transactions. If there are any discrepancies, a general ledger lets you drill down into sub-ledger accounts and individual transactions to fix them. It also provides a way to spot fraudulent activity before it becomes a significant problem.
MYOB's accounting software with general ledger
MYOB's small business accounting software automates the basic processes around posting transactions to the general ledger.
It consolidates financial data from different sources into one system and automatically syncs transactions into the relevant accounts, significantly reducing the time and effort involved in maintaining accurate record-keeping. Get started with MYOB today.
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