What Is A General Ledger And How Does It Typically Work?

Updated 20 October 2022

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A ledger serves as the foundation of an accounting system, storing financial data for any organisation by recording it in credit and debit columns. A company can preserve the integrity of a ledger and prevent fraudulent activity by storing it on a blockchain. If you want to work in accounting or banking or know more about finances, it is beneficial to understand what a ledger is. In this article, we discuss what a ledger is, list various types of ledgers, describe how you can use it to prepare financial statements and provide steps in the accounting cycle.

What Is A General Ledger?

A general ledger is a record-keeping system for all financial data within a company. It records every financial transaction, including withdrawals and expenditures, that occurs during a company's lifetime. A company uses one to organise and store its financial statements. A ledger can help an accounting professional assess the company's ongoing financial performance. The following are the five categories of ledger accounts:

Asset ledger

Asset ledgers contain the accounting records of the company's asset transactions. An asset is any entity acquired by the company in the past or that may provide future economic benefits. Vehicles, equipment, investments, inventory, cash, prepaid expenses, buildings and goodwill are examples of asset accounts. You can categorise these assets within a company in various ways. With regard to usability, you can put them into the following categories:

Non-current assets: These are long-term assets in the company. Examples include owned vehicles and equipment.
Current assets: These are assets that are or can convert to cash within the year. Examples include owning specific investments and inventory.

Liabilities ledger

Liability ledgers contain the accounting records of the company's current obligations. These obligations may result from past events and can account for the company's economic outflows in the coming fiscal years. The following are the two types of liabilities:

Current liabilities: These are liabilities that a company settles within the next 12 months. An example is trade payables.
Long-term liabilities: These are liabilities that the company can pay off or are due after 12 months. An example is a bank loan.

Capital ledger

Capital ledgers show the initial investment or the amount put into the business by the owners or investors. Capital ledgers record residual interest, which is the interest payable on assets after deducting liabilities and capital or equity. With these accounts, you can calculate net income by subtracting the loss and withdrawals from the total income.

Income ledger

Income ledgers record the economic benefits that an organisation received during a specified accounting period. Income includes asset enhancement, liability reduction and direct cash inflow. These ledgers mention revenue and gain, where revenue is the earnings generated by the organisations' regular activities and gains are any other income.

Expense ledger

Income ledgers are the opposite of expense ledgers. They track transactions that account for a decrease in an organisation's economic benefit during an accounting period. This results in a decrease in capital. Organisations can incur expenses in the form of asset depletion, liability increases and direct cash outflows. Examples of expenses are rent costs, salary payable costs and loan repayments.

How Can You Use A General Ledger To Prepare Financial Statements?

A general ledger is a summary of a subsidiary ledger or sub-ledger. Sub-ledgers store detailed information about all transactions in various documents. Journals record all daily transactions within the company in chronological order. The ledger duplicates the summary of the journal entries and categorises the transactions. This makes it simple to locate information on previous transactions. With a ledger, at the end of an accounting period, you can make a trial balance. You can also use data stored in the ledger to prepare other types of financial records, such as the following:

Income statements: These are official statements of the company's total expenditures and income. They detail a company's profits or losses.
Balance sheets: These are brief reports that list a company's assets, liabilities and net worth at a point in time. For example, a company might compare a balance sheet from last June to one from this June.
Cash flow statements: This is a document that lists the amount of cash debited and credited to a company's accounts. It highlights the allocation of these funds as either an investment, operational cost or general finance.
Statements of shareholder's equity: These documents detail changes or updates to stakeholders' stocks in a company. For example, an investment banker might use last year's statement to inform the company's investment decisions.

The 6 Steps Of An Accounting Cycle

While learning more about ledgers, you can understand their importance and use by reviewing the accounting cycle. The following are six steps of an accounting cycle:

1. Gather source documents

Source documents are receipts or anything that proves a company's income or expense. Salaries, rent and office supplies are examples of these costs. Gathering source documents is the first step in the accounting process, as it allows you to determine the accuracy of the ledgers created later. While gathering documents, it is useful to categorise the expenses.

2. Record transactions

The act of recording transactions in journals entails recording all income and expense transactions made by the firm. Accountants use a variety of software to record the transactions gathered in the first step. Journals may also contain manual entries or physical books. You can then classify information and enter information into the records if it was not in the previous step. All records kept in the journal are journal entries or journal records.

3. Transfer the information to ledgers

In the next step, move the transaction records into ledgers. You can typically do this using software. Ledgers contain records organised by expense type or category. This makes it easier to find information of the same type and obtain information within the same area.

4. Prepare trial balance

Trial balances are an important accounting tool that summarises financial data or a ledger. Trial balances aid in the detection and correction of problems before they occur. These balances help detect mathematical errors. For example, you can use them to determine whether the total of the debits equals the total of the credits. You can also compare your expectations to the trial balance numbers. This helps confirm the accuracy of the records and directs your attention to only those accounts that deviate significantly from expectations.

5. Prepare financial statements

This step aids the compilation of information gathered and stored during the accounting process. After verifying records with trial balances, you can generate financial statements. It is important to treat all cash inflows and outflows in the organisation as a single economic entity when preparing financial statements. This includes assets, equity, liabilities, expenses, cash flows and incomes.

When preparing consolidated financial statements, the overall statement is a combination of all owned cash and the cash flows of subsidiary companies. You may categorise these to explain the parent company's financial statement.

6. Analysis of financial statements

Following the preparation of a financial statement, you can examine the income statement. Financial ratio analysis is one of the most effective analysis techniques. You can use income statements and balance sheets to help you with this. You can first calculate the financial ratios separately for each of these documents before combining the two to analyse the overall financial statement. While the income statement describes the company's profits in a given fiscal year, the balance sheet describes what the company owns and owes.