Basic Guide to Debits and Credits

Basic Guide to Debits and Credits

Double-entry Bookkeeping

When financial information is recorded the double entry bookkeeping system is used. There is always a debit entry (Dr) and a credit entry (Cr) for each transaction that takes place within the entity. The debit side and the credit side of the transaction must balance therefore, leaving us with a double sided affect, hence the name double entry bookkeeping.

The following examples show debits and credits in action:

A business makes a purchase of a van $1,000. In order to record this transaction we would need to show the reduction of the bank account by $1,000 and the increase of assets owned by the business (the van). This is a double sided effect that influences both the debit and the credit side of the accounts.

The difference between debits and credits, and how to allocate transactions to them will be explained now.

Debits and Credits

‘Debit’ is abbreviated as ‘Dr’ and are always shown on the left hand side when being shown in financial statements.  ‘Credit’ is abbreviated as ‘Cr’ and are always shown on the right.

Which side to allocate transactions

The easiest way to memorise where to allocate each side of a transaction is to use remember ‘DEAD’ and ‘CLIC’. The breakdown of these is shown below.

 

Debits and Credits table

 

The accounting equation we reviewed in the previous post is now written as;

Capital (Cr) = Assets (Dr) -Liabilities (Cr)

 

Creating Journal Entries

We are going to use our understanding of debits and credits to create a journal entry for a transaction. Journal entries are the way in which transactions are entered into a nominal ledger. By using the double entry bookkeeping system bookkeepers and accountants have a final check that the transactions they are entering are correct.

 

Example

Owner introducing £15,000 of capital into the business.

Capital, as we know from CLIP is a credit entry. This is because it is a liability for the company as it is a loan from the owner. We know that for each credit entry there must be a debit entry so we have to analyse what the £15,000 will affect. If £15,000 is entered into the company the bank account will increase by the same amount. We know that an increase in an asset (the money deposited) is a debit entry. This is therefore, the other side of the journal entry.

This would be shown as;

Dr Bank £15,000

 

Cr Directors Loan Account/Capital Introduced £15,000

Bank Statements

Bank Statements often cause a lot of confusion to new business owners as they know that debiting the bank from the point of view of a company increases the bank balance. This however, is not the case when it comes to bank statements. Bank statements are written from the bank’s point of view, therefore, a debit is a withdrawal from the bank as it is the reduction of the liability the bank has to you (or the company). The opposite is true for credit entries which of course, are deposits into the bank account.

When looking at a credit card statement, you will see that repayments often have ‘Cr’ next to them. This is because the credit card (or loan) is a debtor to the bank and a repayment of the credit card is the reduction of the debtor (asset).

More from us?

To view our previous educational articles on our posts page.

This Post Has One Comment

  1. Great content. Looking forward to see you explaining hire purchase calculation through sum of digits method. I still cannot get my head round this concept.

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