How Can a Small Business Use a General Ledger?
While you can make do without a general ledger, especially if you own an independent business, every business owner should at least consider using one.
As we dive into the process of creating a general ledger, why it’s important, and how you can start assembling one, remember that general ledgers use the double-entry accounting method. This method requires that each debit on one account is accompanied by a credit on another account.
How to Create a General Ledger
Although the basic concept of a general ledger is the same across all types and sizes of businesses, how it’s assembled differs from company to company. A general ledger is made up of balance sheet accounts — which include assets, liabilities, and capital accounts — and income statement accounts, which include accounts related to income and expenses.
This means, to create a general ledger, you’ll need to identify all the accounts — such as inventory, depreciation, owner’s equity, payroll taxes, and others — that apply to your business. Then, you’ll compile each of those accounts as sub-accounts of the general ledger.
Once you’ve identified the accounts to include in the general ledger, you’ll need to prepare a trial balance. The trial balance is a document that lists the balances of all general ledger accounts so you can ensure that each transaction debits one account and credits another.
When everything is compiled in the trial balance, the Accounting Equation, Assets = Liabilities + Shareholder’s Equity, must reconcile. If the equation doesn’t reconcile, you know there’s a mistake somewhere because, as mentioned earlier, each debit on one account requires a corresponding credit on another account.
How to Use and Update the Ledger
When you create the trial balance, you’ll undoubtedly run into problems. While this may be frustrating, it’s one of the primary benefits of preparing a general ledger because you can find and fix any errors within your books. This gives you, potential investors, lenders, and other stakeholders a clear and accurate picture of your business at a given point in time.
Once you’ve done the initial work to set up a general ledger, you’ll still need to keep it updated. You’ll do this by periodically, transferring transactions from sub-accounts to the general ledger. Then, you’ll prepare a new trial balance to ensure that the new transactions balance out.
Software Advice suggests ensuring that your accounting software provides bank reconciliation and the ability to customize. Bank reconciliation is important because it allows you to match general ledger balances to bank accounts. Moreover, since your financial structure is unique to your business, you may need customizations to make your accounting system work as effectively as possible.
Why a General Ledger is Important
The process of assembling a general ledger helps you ensure that your financial information is accurate. This is important because it helps you and anyone else quickly and reliably evaluate your business’s overall financial health. For example, if expenses rise dramatically in a given period, the general ledger is the first place you can go to dig into to find out what’s causing that spike in costs.
In this way, because the ledger is an overview of your business, it helps give anyone who’s evaluating your company a high-level view of your finances. This can be instrumental when you’re negotiating with investors or lenders because everyone’s looking at the same numbers.
In addition, assembling a general ledger means all your financial information is in one place which makes preparing your taxes, applying for loans, and handling other tasks, far more efficient.
Whether or not you use a general ledger is up to you. Although it may take time and resources to set up, it’s hard to argue for a better system of maintaining an accurate, clear record of all your transactions. However, if you’re on your own and don’t have the resources to implement the system required to create, maintain, and update a general ledger, you can probably afford to wait.
Meet with your account or another financial professional to find out exactly what setting up a general ledger could mean for your business.
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