Debit and Credit Explanation

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What exactly are debits and credits?

Bookkeepers and accountants use the terms debits and credits when recording transactions in accounting records. Every transactions amount must be entered as a debit (on the left side of the account) and as a credit (on the right side of the account) (right side of the account). This double-entry system ensures that accounting records and financial statements are accurate.

The first challenge is determining which accounts will have debit entries and which will have credit entries. Before we explain and illustrate debits and credits in accounting and bookkeeping, let's talk about the accounts where the debits and credits will be entered or posted.

What Exactly Is An Account?

Accountants created a system that sorts transactions into records called accounts to keep a company's financial data organised. When a company's accounting system is established, the accounts that are most likely to be impacted by the company's transactions are identified and listed. The chart of accounts may include as few as thirty accounts or as many as thousands, depending on the size of the company and the complexity of its business operations. A company can customise its chart of accounts to meet its specific needs.

The balance sheet accounts are listed first in the chart of accounts, followed by the income statement accounts. In other words, the accounts in the chart of accounts are organised as follows:

• Assets
• Liabilities
• Equity of Owners (Stockholders)
• Income or Revenues
• Expenses
• Gains
• Losses

Double Entry Accounting

Our accounting system is known as a double-entry system because every business transaction affects at least two accounts. (You can select the appropriate accounts by consulting the company's chart of accounts.) When an appropriate account cannot be found, accounts may be added to the chart of accounts.

For example, if a company borrows $1,000 from a bank, the transaction will affect both the Cash and Notes Payable accounts. When the company repays the bank loan, both the Cash and Notes Payable accounts are involved.

When a company buys supplies for cash, both the Supplies and Cash accounts are affected. Supplies and Accounts Payable are the accounts involved when the company purchases supplies on credit.

Rent Expense and Cash are the two accounts involved when a company pays the rent for the current month. If a company provides a service and gives the client 30 days to pay, the Service Revenues and Accounts Receivable accounts are affected.

Despite the fact that the system is known as double-entry, a transaction may involve more than two accounts. A $300 loan payment to a bank is an example of a transaction involving three accounts. Cash, Notes Payable, and Interest Expense will all be affected by this transaction.

(Because accounting software is designed to be user-friendly, you may not notice that two or more accounts are being affected. As an example, suppose you use your accounting software to write a company check. Your software reduces your Cash account automatically and prompts you only for the other accounts that are affected.)

Credits and Debits

You must debit at least one account and credit at least one account after identifying the two or more accounts involved in a business transaction.

To debit an account, enter an amount on the account's left side. To credit an account, enter an amount on the account's right side.

In general, these accounts are increased with a debit:

• Dividends (Draws)
• Expenses
• Assets
• Losses

When recalling the accounts that are increased with a debit, you might think of D - E - A - L.

Credit is typically used to increase the following types of accounts:

• Gains
• Income
• Revenues
• Liabilities
• Stockholders' (Owner) Equity

When recalling the accounts that are increased with a credit, you might think of G - I - R - L - S.

To decrease an account, do the inverse of what was done to increase it. A debit, for example, increases an asset account. As a result, it is reduced with a credit.

Debit is abbreviated as dr., and credit is abbreviated as cr.

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