What are Debits and Credits?
Simply put, debits (dr) record money (or assets) going into your business and credits (cr) record money out.
This is the foundation of double-entry bookkeeping. For every transaction, a debit is recorded with a corresponding credit. Multiple accounts can be affected by a single transaction, but there must be at least two accounts involved and debits will always equal credits. When debiting and crediting accounts, it’s important to understand whether the balance of the account will increase or decrease.
How Debits and Credits Affect Balance Sheet Accounts
Let's take a look at the three balance sheet accounts — assets, liabilities, and owner’s equity.
Since assets are what your company owns, money going in results in your assets increasing. On the flip side, credits decrease assets.
Liabilities are what you owe, so if you put money in (debit), the balance of the account will go down. When you take money out (credit), the balance of your debt will go up.
Equity is what you (or other owners and stockholders) have invested into the business. If you invest more money, your assets in the company will increase (debit) and your equity in the company will also increase (credit).
The Accounting Equation
Double-entry bookkeeping, debits, and credits all support the accounting equation and keep it balanced. As a reminder, the accounting equation is:
Assets = Liabilities + Owners’ Equity
When looking at this equation, it’s easier to understand how debiting and crediting can affect each account. Adding something to one side of the equation typically means you will need to add something to the other side of the equation to keep it balanced.
For example, if you purchase a $2000 couch for your office lobby on credit. Your assets will increase by $2000 because you now own furniture valued at $2000. Your liabilities will also increase by $2000 because you now owe $2000. Both increase by $2000 and the equation remains balanced.
If you want to pay off your credit card with cash, you would credit your assets account to decrease it by $2000. You would then debit your liabilities to decrease the balance by $2000. Once again, the equation remains balanced.
You can also debit and credit two different asset accounts in the same transaction. For example, if you purchase office supplies with $200 cash, you would be recording $200 debit for Office Supplies and a $200 credit for Cash. This transaction doesn’t actually change the accounting equation, but you still need to record it in your journal entries.
How to Record Debits and Credits
When recording debits and credits in your journal, debits will always go in the left column, and credits are recorded on the right. Let’s use the examples from above to record transactions.
Summary
It may be confusing at first, but once you start working with the numbers and accounts, you’ll be able to record transactions in no time! Here’s a summary to help remind you of the details:
Assets: debits increase, and credits decrease
Liabilities: debits decrease, and credits increase
Owners’ equity: debits decrease, and credits increase
If you’re looking for help managing your books and recording your transactions, our team at Summit Bookkeeping is happy to help. Contact us or give us a call at (360) 756-5020 to talk to one of our bookkeepers to determine how we can fit your needs!