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How to use Debits and Credits in Accounting
Debits and Credits in Accounting
Debit and credit are terms used to refer to the double entry system used in business transactions today. A transaction is an event that has a monetary impact on the financial statements and of a company. When recording these transactions, we use two accounts at a minimum. Accounts are recorded in two sided ledgers. The left side of the column is the debit column and the right side is the credit column. The debit side of an entry will increase an asset value or an expense account. It can decrease the liability or equity account. A credit is the opposite side (right hand side) of the transaction. It increases the liability or an equity account, or it decreases an asset or expense account.Understanding debits and credits are simple when remember that each transaction has an equal, yet opposite side.
Types of Accounts
When you set up your accounting system you identify the various accounts that you will maintain. These will typically include assets, liabilities, owners’ equity, income, expenses, gains and losses. Large companies may have many other types of accounts but these arethe basic types. You may have several asset accounts and several liability accounts.All will have debits and credits in accounting records. If you have two bank accounts and loans from both banks, you will have at least two asset accounts and two loan payable accounts.
How to Use a Debit and Credit in Accounts
When a transaction occurs in an organization at least two accounts are involved. The transaction will cause a debit entry to be recorded against one account and a credit entry being recorded against the other account. The debit amount and the credit amount on each account are always be equal to each other. The two entries simply report how the financial condition of the company has changed due to the transaction.
Debits increase asset balances.They are decreased by credits. A liability account balance is decreased by a debit and increased by a credit. For equity accounts balances are decreased by debits and increased by credits. The formula which accounting transactions on a balance sheet are based is as follows:
Assets = Liabilities + Equity
This statement indicates that you can only have assets if you incurred liabilities to pay for them or you had equity to pay for them. If there is an increase in one asset value, another asset must decrease in the same value. On an income statement debits and credits operate as follows:
- Income Statement - income will decrease with a debit and be increased by a credit.
- Expense statement - a debit increases expenses while a credit decreases them.
- Gains and losses statement - a debit decreases gains while a credit increases them;
a debit increases losses while a credit decreases them.
Basic Transactions and Their Effects
- When your company makes a sale for cash, a debit is made to the cash account while a credit is made to the revenue account.
- When you make a sale on credit a debit is made to the accounts receivables and a credit is made to the revenue account.
- When you make a purchase of supplies with cash, a debit is made to the supplies account and a credit is made to the cash account.
- When a customerpays money they owed, a debit is made to the cash account and a credit to accounts receivable.
- When your company purchases supplies using credit, the supplies account will be debited in the accounts payable account will be credited.
- If your company takes a loan,your cash account will be debited and your loans payable account will be credited.
- When the loan is repaid, the loans payable account will be debited and the cash account will be credited.
Debit and Credit Guidelines
An account with a debit balance will increase when a debit is added to it and will be reduced when a credit is added. Accounts that have a credit balance will increase if a credit is added to them and will decrease if a debit is added to them. All debits and credits must be equal otherwise transactions are out of balance. Generally, expenses, assets, losses are increased with a debit. Capital gains, income, liabilities and owners’ equity are increased with credits.
When cash is received a debit is entered to the cash account. When cash is paid out, a credit is entered into the cash account. There will be an equal amount credited or debited to the corresponding account.
Example of Debit and Credit in Transactions
ABC Company borrows $5000 from its bank on December 1, 2015. The left side of the cash account is debited $5000. The right side of the notes payable account is credited for $5000.
ABC company pays back the $5000 to its bank on April 1, 2016. The right side of the cash accounts is credited $5000. The left side of the notes payable account is debited $5000.
Other Things to Know About Debit and Credit Transactions
Some people abbreviate debits and credits in accounting using, Dr and Cr.Typically an increase to an asset account is a debit. Therefore, an increase to a liability account or owners’ equity is a credit. A credit decreases the value of an asset. A debit will decrease the value of a liability or equity.
A general ledger is a term that is used to refer to the combination of all the different accounts for a company. The term was used before companies switched to accounting software programs for maintaining records. It was a book accountants updated on an ongoing basis to maintain records. Some people still use the term.
Credit balances and debit balances in accounts are determined by adding and subtracting the columns. If the Cash Account has a debit of $13,330 and a credit amount of $12,300, the Cash account will have a debit balance of $1000. This means that there is a positive Cash balance of $1000.
I hope you are now clear about debits and credits in accounting. If you have any question about accounting, ask me through comments.
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