What is Double-Entry Bookkeeping?
All businesses, whether they use the cash-basis accounting method or the accrual accounting
method, use double-entry bookkeeping to keep their books. Double-entry accounting is
a practice that helps minimize errors and increases the chance that your books balance. This
method gets its name because you enter all transactions twice.
When it comes to double-entry bookkeeping, the key formula for the balance sheet (Assets = Liabilities + Equity) plays a major role.
In order to adjust the balance of accounts in the bookkeeping world, you use a combination
of debits and credits. You may think of a debit as a subtraction because you've found that
debits usually mean a decrease in your bank balance. And, you've probably found unexpected
credits in your bank or credit card account that mean more money has been added in your favor.
Now forget what you've learned about debits or credits. In bookkeeping, their meanings aren't so simple.
The only definite thing when it comes to debits and
credits in the bookkeeping world is that a debit is on the left side of a transaction and a
credit is on the right side of a transaction.
Double-Entry Bookkeeping Example: Purchasing an Item With Cash
In this transaction, you record the accounts impacted by the transaction. The debit increases
the value of the Furniture account, and the credit decreases the value of the Cash account. For
this transaction, both accounts impacted are asset accounts, so, looking at how the balance
sheet is affected, you can see that the only changes are to the asset side of the balance sheet equation:
Assets = Liabilities + Equity
Furniture increase = No change to this side of the equation
In this case, the books stay in balance because the exact dollar amount that increases
the value of your Furniture account decreases the value of your Cash account. At the bottom
of any journal entry, you should include a brief description that explains the purpose for
Double-Entry Bookkeeping Example: Purchasing Items on Credit
To show you how you record a transaction if it impacts both sides of the balance sheet
equation, here's an example that shows how to record the purchase of inventory. Suppose that
you purchase $5,000 worth of widgets on credit.
These new widgets add value to your Inventory Asset account and they also add to your
Accounts Payable account. (Remember, the Accounts Payable account is a Liability account where
you track bills that need to be paid at some point in the future.) Here's how the double-entry
bookkeeping transaction for your widget purchase looks:
|Accounts Payable|| ||$5,000|
Here's how this transaction affects the balance sheet equation:
Assets = Liabilities + Equity
Inventory increases = Accounts Payable increases + No change
In this case, the books stay in balance because both sides of the equation increase by $5,000.
You can see from the two example transactions how
double-entry accounting helps to keep your books in balance — as long as you make sure each
entry into the books is balanced. Balancing your entries may look simple here, but sometimes
bookkeeping entries can get very complex when more than two accounts are impacted by the transaction.
This is an excerpt from:
Trying to get certified and become an accountant? Own a small business but need a little
help balancing your books? Don't worry! This hands-on guide provides the learning and vital
practice you need to master important accounting concepts and basics. Perfect as a companion
workbook for Accounting For Dummies - or any other accounting textbook - Accounting Workbook
For Dummies gives you a wealth of real-world examples, demonstration problems, and handy
exercises. With this helpful resource as your guide, you'll master balance sheets, income
statements, and budgets in no time!
• Record transactions, track costs, and manage accounts
• Open and close bookkeeping cycles
• Analyze business performance and profit
• Choose the right accounting method
• Master investment accounting fundamentals
• Understand manufacturing cost accounting
Click here for more information.