Accounting is made up of a double-entry system. Whenever a transaction occurs, a bookkeeper records it by placing the amounts as equal debits and credits to various accounts. Organizations keep track of their revenues, expenditures and other financial information by separating these amounts into accounts. Accounts are normally divided into five main categories. Each category contains specific rules on the treatment of debits and credits. All transactions are posted into a company's general ledger. This ledger is a book that contains columns to track the date, the type of transaction, the amount and the accounts affected by the transactions. One main principle to remember is that debits are always on the left side of the journal and credits are on the right.
Accounts
The five main categories of accounts are assets, liabilities, owner's equity, revenues and expenses. Assets are accounts that keep track of things an organization owns of value. Some examples are cash, supplies, equipment and accounts receivable. Liabilities are accounts that track amounts a company owes, such as mortgage payable, accounts payable and notes payable. Owner's equity accounts track the amounts that owner's invest in the business, and are typically listed as capital accounts and drawing accounts. Revenues track amounts that a company earns and expenses are accounts that track all of a company's expenditures.
Rules for Assets and Expenses
Each of the five categories of accounts have rules about debits and credits. The first rule is true for all assets and expenses. Asset and expense accounts are increased with debits. Therefore, every time an asset or expense account increases, it is because a debit was applied. Every time an asset or expense account decreases, it is due to a credit to the account. For example, if a company received cash, the cash account is debited to increase it. If a company pays out cash, the cash account is credited.
Rules for Liabilities, Revenues and Equities
The second rule applies to the other three types of accounts. Each time a liability, revenue or equity account increases, it is credited. Every time one of these three accounts decreases, it is debited. For example, if a company earns $500 in revenue, you must credit the revenue account. To illustrate this with a liability, suppose a company pays off a bill that was due for $100. To decrease the liability, you must debit the liability account for $100.
Balancing the Books
Every time you record a transaction, there must be a combination of debits and credits. These amounts must always be the same in order for the accounts to balance out. When a company balances out its books, it adds up the total amount of debit balances and total amount of credit balances. If these two numbers are not equal, the company must review the financial information to discover a mistake.
Jennifer VanBaren - Jennifer VanBaren is a graduate of St. Josephs College, a small private University located in Rensselear, Indiana. She received a ...
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