In bookkeeping, debits and credits are foundational concepts used to record financial transactions. They form the basis of double-entry accounting, a system that ensures accuracy and maintains the balance in the accounting equation: Assets = Liabilities + Equity.
- Debits:
- Increase assets.
- Decrease liabilities and equity.
- Credits:
- Decrease assets.
- Increase liabilities and equity.
Let’s use some practical examples to illustrate the concept:
- Buying Office Supplies
Suppose your business buys office supplies for $500 cash on November 15th.
Debit (Dr): Office Supplies (Asset) $500
Credit (Cr): Cash (Asset) $500
You debit Office Supplies because it’s an asset, and assets increase with debits. You credit Cash because it’s an asset, and assets decrease with credits.
- Getting a Loan
Your business takes out a loan for $10,000 on October 16th.
Debit: Cash (Asset) $10,000
Credit: Loan Payable (Liability) $10,000
You debit Cash because it’s an asset and increases with debits. You credit Loan Payable because it’s a liability, and liabilities increase with credits.
- Receiving Payment from a Customer
A customer pays $1,000 for services rendered.
Debit: Cash (Asset) $1,000
Credit: Service Revenue (Equity) $1,000
You debit Cash because it’s an asset and increases with debits. You credit Service Revenue because it’s equity, and equity increases with credits.
- Paying Rent
Your business pays $1,200 for rent.
Debit: Rent Expense (Expense) $1,200
Credit: Cash (Asset) $1,200
You debit Rent Expense because it’s an expense, and expenses increase with debits. You credit Cash because it’s an asset, and assets decrease with credits.
Summary
- Debits increase assets and decrease liabilities and equity.
- Credits decrease assets and increase liabilities and equity.
- Every transaction involves at least one debit and one credit.
- The total of debits must always equal the total of credits to maintain balance.
Next: Understanding the difference between Accrual and Cash basis accounting.