Lecture Note 4: Debits and Credits
Overview
Debits and credits form the foundation of the double-entry accounting system, which ensures that
every financial transaction affects at least two accounts in such a way that the accounting equation
remains balanced:
Assets = Liabilities + Owner's Equity
1. What is Double-Entry Accounting?
In a double-entry system, each transaction involves:
- A debit (Dr) entry to one account
- A credit (Cr) entry to another account
This system ensures the books are always balanced:
Total Debits = Total Credits
2. Account Types and Their Normal Balances
Account Type | Increases With | Decreases With | Normal Balance
--------------------|----------------|----------------|----------------
Assets | Debit | Credit | Debit
Liabilities | Credit | Debit | Credit
Equity | Credit | Debit | Credit
Revenue | Credit | Debit | Credit
Expenses | Debit | Credit | Debit
Drawings | Debit | Credit | Debit
3. Rules of Debit and Credit (Golden Rules)
For Personal Accounts:
- Debit the receiver
- Credit the giver
For Real Accounts (Assets):
- Debit what comes in
- Credit what goes out
For Nominal Accounts (Income & Expenses):
- Debit all expenses and losses
- Credit all incomes and gains
4. Practical Examples
Example 1: Owner invests capital into the business
- Debit: Cash (Asset increases)
- Credit: Owner's Capital (Equity increases)
Example 2: Purchase inventory on credit
- Debit: Inventory (Asset increases)
- Credit: Accounts Payable (Liability increases)
Example 3: Pay office rent
- Debit: Rent Expense (Expense increases)
- Credit: Cash (Asset decreases)
Example 4: Sale of goods for cash
- Debit: Cash (Asset increases)
- Credit: Sales Revenue (Revenue increases)
5. Journal Entry Format
A journal is a chronological record of all transactions. Each entry follows this format:
Date Account Debited Dr. Amount
Account Credited Cr. Amount
[Brief Description]
Sample Entry:
Jan 1 Equipment A/c Dr. $5,000
To Cash A/c $5,000
(Purchased equipment for cash)
6. T-Accounts (Ledger Format)
T-accounts are visual representations of accounts used to understand the flow of debits and credits.
Example: Cash Account
Cash A/c
---------------------
Dr. | Cr.
$5,000 | $2,000
(Received | (Paid rent)
capital) |
Net Balance = $3,000 (Debit)
7. Common Mistakes to Avoid
- Reversing debits and credits
- Forgetting to record the second side of a transaction
- Not maintaining the balance of the accounting equation
- Misclassifying account types
8. The Impact of Debits and Credits on Financial Statements
Account | Statement Affected | Impact of Debit | Impact of Credit
---------------|------------------------|--------------------------|--------------------------
Assets | Balance Sheet | Increases | Decreases
Liabilities | Balance Sheet | Decreases | Increases
Equity | Balance Sheet | Decreases | Increases
Revenue | Income Statement | Decreases | Increases
Expenses | Income Statement | Increases | Decreases
Conclusion:
Debits and credits are the building blocks of accounting. Mastery of these concepts helps prevent
bookkeeping errors and supports a deeper understanding of financial data. Whether using software
or manual systems, the principles of debits and credits apply universally across accounting systems
and industries.
