Debit and Credit Rules
Debit and credit rules are fundamental to double-entry bookkeeping, a system where each financial transaction affects at least two accounts – a debit to one account and an equal, offsetting credit to another. The rules help maintain the accounting equation, which states that assets equal liabilities plus equity.
Here are the basic rules:
- Assets: An increase in assets is recorded as a debit, and a decrease is recorded as a credit.
- Liabilities: An increase in liabilities is recorded as a credit, and a decrease is recorded as a debit.
- Equity: Equity is increased by credits (such as when owners invest money in the business or when the business earns profit) and decreased by debits (such as when the business incurs a loss or distributes profits to owners).
- revenue or Income: Increases in revenue or income accounts are recorded as credits, and decreases are recorded as debits.
- Expenses: Increases in expense accounts are recorded as debits, and decreases are recorded as credits.
The mnemonic acronym DEALER can help remember these rules:
- Debit: Dividends, Expenses, and Assets
- Credit: Liabilities, Equity, and Revenue
Remember, every financial transaction must have at least one debit and one credit, and the total debit amount must always equal the total credit amount to keep the books balanced. This practice ensures the integrity of the financial records.
Example of Debit and Credit Rules
Let’s consider a few examples to illustrate the debit and credit rules:
Example 1 – Purchasing Inventory with Cash:
Suppose a retail company buys $5,000 worth of inventory, paying with cash. Here’s how the journal entry would look:
| Account | Debit | Credit |
|---|---|---|
| Inventory (Asset) | $5,000 | |
| Cash (Asset) | $5,000 |
In this transaction, the company’s Inventory account (an asset) is increased, so it’s debited. The Cash account (also an asset) is decreased, so it’s credited.
Example 2 – Taking Out a Loan:
Suppose the same company takes out a loan of $10,000 from a bank. Here’s how the journal entry would look:
| Account | Debit | Credit |
|---|---|---|
| Cash (Asset) | $10,000 | |
| Loans Payable (Liability) | $10,000 |
The company’s Cash account (an asset) is increased, so it’s debited. The Loans Payable account (a liability) is increased, so it’s credited.
Example 3 – Earning Revenue:
Suppose the company sells inventory worth $7,000 for cash. Here’s how the journal entry would look:
| Account | Debit | Credit |
|---|---|---|
| Cash (Asset) | $7,000 | |
| Sales Revenue (Revenue) | $7,000 |
The company’s Cash account (an asset) is increased, so it’s debited. The Sales Revenue account (a revenue account) is increased, so it’s credited.
Example 4 – Incurring an Expense:
Suppose the company pays $2,000 in salaries to its employees. Here’s how the journal entry would look:
| Account | Debit | Credit |
|---|---|---|
| Salaries Expense (Expense) | $2,000 | |
| Cash (Asset) | $2,000 |
The Salaries Expense account (an expense account) is increased, so it’s debited. The Cash account (an asset) is decreased, so it’s credited.
In each of these transactions, the total debits equal the total credits, keeping the books balanced according to the rules of double-entry bookkeeping.
