We are all part of a societal landscape that tracks everything. How many steps we take, how many calories we eat, and how many miles we have driven. If only there was a space to transfer and analyze all of this data in one place. In the accounting world, this place is called the general ledger.
We recently explained how to document your business transactions via journal entries. The most common method of presentation of that “journal” is the General Ledger, where all of these transactions are housed.
The General Ledger or GL is the backbone of any accounting system. The GL breaks out all of the transactions by category and then within each category, transactions are listed chronologically. This article covers the purpose of a general ledger, identifying each of the five different sections and how they operate within a double-entry bookkeeping system.
Purpose of a General Ledger
A General Ledger aims to help track and evaluate every financial transaction for your small business. This information is the foundation of the organization’s financial statements.
You can equate a GL to a computer database. All the code/systems run off the information within this database. Performing individual tasks will reanalyze and ultimately update the systems within the database.
By comparing transaction data from one period to the next, you can identify trends, unusual behavior, or areas of concern. In addition, the GL is helpful when filing taxes since all income and expense transactions are categorized in one location.
The five sections of a General Ledger break out individual transactions mirrored in the Balance Sheet and Income Statement.
- Assets (Balance Sheet) – Assets represent what a business owns and produce value. Examples of assets include cash, land, buildings, and equipment.
- Liabilities (Balance Sheet) – GL liability accounts represent the financial obligations that a business entity owes to outside parties. Examples include amounts due to suppliers or bank loans.
- Equity (Balance Sheet) – Equity is the difference between total assets and total liabilities. If a business was to sell its assets to pay all its liabilities, the cash remaining is known as equity or what is left over for owners. The equity balance consists of retained earnings, common stock, and additional paid-in capital.
- Revenue (Income Statement) – Revenue is the business’s income derived from the sales of its products or services. Revenue or income is measured from one period to the next and provides economic benefits to the company.
- Expenses (Income Statement) – Expenses consist of the money paid by the business in exchange for a product or service. Expenses can include rent, utilities, travel, and meals.
A fundamental principle in accounting is the “Accounting Equation”: Assets = Liabilities + Shareholders’ Equity. These numbers are documented via the balance sheet. The double-entry accounting system ensures that this principle equation always stays in balance.
A debit is an accounting entry that increases an asset or expense and decreases a liability or equity account, and a credit does the opposite. If your debits and credits do not balance, you know a mistake was made and must be identified.
Therefore, for debits and credits to balance, an entry on the debit side must be accompanied by a corresponding entry on the credit side and vice versa.
For example, when a bookkeeper enters a credit entry into the general ledger, this increases the equity and positively impacts the liabilities account. At the same time, the debit account will decrease because there is now more cash in the bank.
Implementing a double-entry system is like utilizing a system with built-in checks and balances.
Financial reports consist of a balance sheet, profit and loss account, and statement of cash flows; however, this data doesn’t tell the whole story because these statements are all summary data (transactions are summed during the period).
On the other hand, you can see every individual transaction within a general ledger. Sometimes, it is necessary to dig into dozens of journal entries to identify the core issue. Thus, all of this data must exist in one place.
Overall, general ledgers are master records that house the financial transactions of your business. Once you understand and start using a general ledger, you will soon realize how powerful and vital it is within your small business.
With FINSYNC your General Ledger is updated in real-time as you run your business. Take control of your cash flow management today!