General ledger definition
A general ledger is a book or journal held by a business, containing accounts that relate to specific financial transactions. In the past, this would have been a book that was updated by hand. While some companies in Malaysia still prefer to keep track of their accounts this way, many businesses now use spreadsheets and increasingly, online accounting software to record these transactions and balance their books.
A general ledger holds all the accounting information of a business: all its transactions, assets, investments, liabilities, owners’ equity, revenue and expenses. It is used to prepare financial statements, end of year accounts and is essentially the backbone of any business.
Why is a general ledger important for businesses?
The general ledger is crucial to businesses because it keeps track of all the financial transactions of a firm and can provide important insights into the financial health of any business. It’s also essential for filing the correct tax returns and staying compliant with the Malaysian tax authorities.
In the past, maintaining the general ledger could be a laborious process where you would have to enter every single transaction that occurred manually into journals, then transfer monthly summaries of those numbers to the ledger and generate reports.
Thankfully, Enterprise Resource Planning (ERP) software has dramatically streamlined the process, making it much easier and quicker for you to record transactions, store them and generate reports from them. Many businesses use ERP software to manage not just their finances but their sales, supply chains and customer relationship management. Having it all in one place can streamline your processes and save you money.
Types of general ledger accounts
The general ledger contains a business’ chart of accounts, a complete listing of every account name. Depending on the size of your business, your general ledger may include hundreds of different accounts.
The accounts in a general ledger – known as ledger accounts – tend to be organised into seven different categories listed below:
- Assets: Assets cover cash, accounts, land and any equipment you might own.
- Liabilities: This will cover any loans you owe, accounts payable (any money you owe to your suppliers) and bonds payable. Normally, bonds are issued by corporations, hospitals and governments – the issuer of the bonds agrees to pay interest annually and repay the principal or a maturity amount at a specified date many years in the future.
- Stockholders’ equity: This is the amount of capital given to a business by its shareholders to finance it. It also includes any retained earnings (profits made by the company to date less any dividends).
- Operating revenues: This is the money you generate from your day-to-day business – your sales or service fees.
- Operating expenses: These are the opposite of your revenues and are expenses you incur from running your business, such as rent, salaries, raw materials etc.
- Non-operating revenues and gains: These are revenues which don’t come from your ordinary operating activities e.g. income from investments, the sale of assets or property or currency exchange.
- Non-operating expenses and losses: Expenses in this category include interest expenses, settling of lawsuits and the loss or disposal of equipment.
A business may have many different accounts under each heading. For example, if you sell five different products, you might have a different account to keep track of your sales numbers for each product.
The general ledger uses a double accounting system, so for each transaction there is a debit and a credit entry. Your debit and credit entries must equal each other for your books to balance.
If, for example, you receive a $1,000 cash payment, that is an asset. As assets and expenses are increased with a debit, you must record a cash payment as a debit in your cash account. However, cash is also capital – which comes under equity – so you should record it as a credit in your equity account too. The two amounts then cancel each other out.
Examples of general ledger entries
As a business owner you might wonder how or why money was spent and figures recorded in the general ledger would be the place to start.
Here are some examples where maintaining an accurate general ledger can help your business:
- Your cash account figures are carried over each month and the account will increase with debits or decrease with credits. If you end the month in credit, your business could be overdrawn.
- Your accounts receivable increases with debits but decreases with credits. For example, you run an IT company in Malaysia, installing computer systems for other businesses. All income from those installations would be entered in here and a debit balance would indicate money is still due from customer purchases. There will be a zero balance when all customers have paid their bills. However, it could also be an indication that sales have dropped.
- The sales account will indicate if your business is making revenue through sales. Credits increase the sales account while debits decrease it. If the sales account exceeded the cost account debits and expenses, you will have made a profit. This figure is recorded in the retained earnings account and can be used to track how much of your company’s profits are retained to help grow the business. If made a loss, this amount would be subtracted from the balance in retained earnings and reflect a reduction in overall profit.
- You need to spend $5000 on a computer system for your business. This would be recorded in assets as a debit balance. But if you used another asset to pay for it – such as cash or a bank loan – these would be recorded as credits under the relevant liability account.
- You have to pay $2000 rent on your offices each month which is an expense. The expense account would be debited $2000. You used cash to pay the rent, so the cash account would be credited $1,500.
A business without a general ledger is much like a ship without a rudder – lacking in direction. The days of keeping a weighty book in your office to record all your financial transactions may be over for forward-thinking businesses in Malaysia, as we enter a new era of cloud-based accounting but keeping a record of your business accounts in one place is still as vital as ever.