Small Business Bookkeeping Guide

2. Bookkeeping 101: What a General Ledger is and How to Use One

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Bookkeeping 101: What a General Ledger is and How to Use One

Mar 13, 2023 • 8 min read
Accounting Ledger Stock Photo
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      Bookkeeping involves maintaining detailed records of your business’ financial transactions. It generates documentation that’s necessary for critical business functions, including creating financial statements and filing tax returns.

      To perform the bookkeeping for your small business, you must be able to create and maintain a general ledger. Let’s review everything you need to know about them, including how they work, what they contain, and how to use them.

      What is a general ledger?

      A general ledger is a comprehensive record of your business’ financial transactions. It presents a list of your business’ financial accounts and the activities that have affected each of them so far, culminating in their current balances.

      General ledgers contain the data necessary to create your business’ balance sheet and income statement. In addition, your accountant can use them to review specific transactions when they want to investigate the details of your financial statements.

      Types of accounts.

      Types of general ledger accounts.

      General ledgers contain a list of all the accounts that are involved in your business’ transactions and show up in your chart of accounts, balance sheet, and income statement. They fall into five primary categories:

      • Assets These represent resources that hold monetary value and go on the top half of the balance sheet. For example, your asset accounts could include cash, receivables, property, and equipment.
      • Liabilities These are the amounts that you’re obligated to pay other parties. They belong on the bottom half of the balance sheet with equity accounts. For example, accounts payable, business loans, and credit card balances are liability accounts.
      • Equity These represent the value that would remain if you liquidated your business’ assets to pay its debts. They go on the bottom half of the balance sheet with your liabilities and include accounts like owner’s equity and retained earnings.
      • Income These accounts are for the funds your business earns through its day-to-day operations and go on the top of the income statement. For example, revenue, sales, and other income are income accounts.
      • Expenses These represent the funds your business spends during its operations. They sit below income accounts on the income statement. For example, your expense accounts might include advertising, interest, and labor.

      General ledgers typically present their accounts in these groups and in this order. Whenever one of your financial transactions creates a new account, you must add it to the document. Fortunately, accounting software can do this automatically.

      Double-entry accounting.

      How to use general ledgers in double-entry bookkeeping.

      The general ledger is integral to the double-entry accounting method, which is the foundation of modern bookkeeping. When using the double-entry method, every transaction must affect at least two financial accounts, and the amounts must balance equally between debits and credits.

      Debits and credits refer to the components of journal entries, which are the records bookkeepers use to document transactions. Debits go on the left side of journal entries, while credits go on the right.

      However, debits and credits have different effects on account balances based on the account type. Asset and expense accounts increase when debited and decrease when credited. Conversely, liability, equity, and income accounts increase when credited and decrease when debited.

      For example, here’s the journal entry you’d make to record the cash payment of a $1,200 rent expense on March 1, 2022. Subsequently, the cash account in your small business ledger would decrease by $1,200 because of the credit, and the rent expense account would increase by $1,200 because of the debt. The same accounts on your balance sheet and income statement would also change to reflect the transaction.

      General ledger vs. financial statement.

      What is the difference between general ledgers and financial statements?

      The general ledger contains a record of every financial transaction in a designated accounting period. That makes it incredibly useful for reviewing the details of specific accounts when you or your accountant needs to investigate aspects of your financial statements.

      Meanwhile, financial statements aggregate the information in your general ledger and present it in a more readily digestible format. The balance sheet shows your business’ assets, liabilities, and equity at the end of an accounting period, while the income statement displays your revenue, expenses, and net income over that period.

      Neither general ledgers nor financial statements are more important than the other. Both are essential accounting documents that inform each other. You must build and maintain them simultaneously to have an accurate and effective bookkeeping system.

      Who manages the ledger?

      Who manages the general ledger?

      The party responsible for maintaining the general ledger usually depends on the size of your company. If you have a well-established business with a healthy budget, you can hire an independent bookkeeper or even a full-time staff member to fulfill the function.

      However, if you do business as a sole proprietor, you’ll usually be the only person available to manage the bookkeeping ledger. You may be tempted to prioritize your other responsibilities, but don’t neglect your financial records too much.

      The longer you go without updating your books, the more challenging it’ll be to remember the details of your transactions. Many new business owners get caught up in their operations early on and create accounting messes that are difficult to untangle.

      About the author
      Nick Gallo, CPA

      Nick Gallo is a Certified Public Accountant and content marketer for the financial industry. He has been an auditor of international companies and a tax strategist for real estate investors. He now writes articles on personal and corporate finance, accounting and tax matters, and entrepreneurship.

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