Understanding The Golden Rule - Debits And Credits

You might have heard of the Golden Rule in life: Treat others as you want to be treated. But, did you know that there’s also a golden rule for accounting?

Golden rules of accounting

It’s no secret that the world of accounting is run by credits and debits. Debits and credits make a book’s world go ‘round.

Before we dive into the golden principles of accounting, you need to brush up on all things debit and credit.

Debits and credits are equal but opposite entries in your accounting books. Credits and debits affect the five core types of accounts:

Assets: Resources owned by a business that have economic value you can convert into cash (e.g., land, equipment, cash, vehicles)

Expenses: Costs that occur during business operations (e.g., wages, supplies)

Liabilities: Amounts owed to another person or business (e.g., accounts payable)

Equity: Your assets minus your liabilities

Income and revenue: Cash earned from sales

The golden rules of accounting also revolve around debits and credits. Take a look at the three main rules of accounting:

Debit the receiver and credit the giver

Debit what comes in and credit what goes out

Debit expenses and losses, credit income and gains

When Do You Use Debits And Credits?

To fully understand debits and credits, you first need to understand the concept of double-entry accounting. Double-entry accounting states that for every financial transaction recorded at least two accounts in your chart of accounts are affected—and they’re affected in equal and opposite ways. 

This method is used within your business’ general ledger and ultimately gives you the basis for your financial reports such as the balance sheet and income statement. So every time you make money or spend money, just remember that at least one account will be debited and one will be credited.

This simply means a debit is an accounting entry that either increases an asset or expense account, or decreases a liability or equity account. It is positioned to the right in an accounting entry. Thus, debits and credits indicate where value is flowing into and out of a business. They must be equal to keep a company's books in balance. Debits increase the value of asset, expense and loss accounts. Credits increase the value of liability, equity, revenue and gain accounts.

Business transactions are events that have a monetary impact on the financial statements of an organization. 

In a nutshell: debits (dr) record all of the money flowing into an account, while credits (cr) record all of the money flowing out of an account.


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