Basic Accounting for Debit & Credit
Confusion About Debits and Credits
- Unless you work as an accountant or bookkeeper, debits and credits can seem confusing. You may even think that the terms are backward. Financial accounts are described to the general public from the bank's perspective concerning your bank account. If the bank credits your account, it increases the value of the account on the bank's books, which is a credit on the liability account from the bank's perspective. From your perspective, you would debit your account, increasing its value on your books.
Effects on Accounts
- Debit accounts affect the five different types of accounts differently, depending on which account is receiving the entry. Debiting an asset account increases its value, and debiting an expense account increases it as well. Credits increase the value of a liability and owner's equity account, and applying a credit to an income account causes it to increase as well. Performing the opposite action has the opposite effect. Asset and liability accounts are balance sheet accounts. Owner's equity is also a balance sheet account. Income and expense are income statement accounts.
- To understand double entry accounting, it is helpful to follow a sample transaction through all of its entries. If you sell an inventory item for $100 that cost $50 on credit to a customer, you would post the transaction the following way. You would debit accounts receivable for $100. Then, credit sales for $100. Debit cost of goods sold for $50, and credit inventory for $50. In this transaction, the debits in all instances equal the credits, and they are spread out correctly amongst the asset and income accounts.
The Accounting Equation
- Just as all debits must equal all credits in double entry accounting, another equation forms a basis for accounting. Assets equal liabilities plus owner's equity on a balance sheet. The idea of making at least two entries for every transaction provides an easy way to confirm and verify that entries in accounting books are done correctly. A transposed number or incorrect entry on one side of the accounting equation can be easily found. All accounts affect the balance sheet of the business, so any errors will show up in a balance sheet where assets do not equal liabilities plus owner's equity.