Debits and Credits Pa r t 1 Introduction to Debits and CreditsIntroduction to Debits and Credits, What's an "Account"?, Double-Entry Accounting, Debits & CreditsWhat's an "Account"? Double-Entry AccountingDebits & Credits Pa r t 2 T–accountsT–accounts, Journal Entries, When Cash Is Debited and CreditedJournal EntriesWhen Cash Is Debited and Credited Pa r t 3 Normal BalancesNormal Balances, Revenues & Gains are Usually Credited, Expenses & Losses are Usually Debited, Permanent & Temporary AccountsRevenues & Gains are Usually Credited Expenses & Losses are Usually DebitedPermanent & Temporary Accounts Pa r t 4 Bank's Debits & CreditsBank's Debits & Credits, Bank's Balance Sheet, RecapBank's Balance SheetRecap I

If the words "debits" and "credits" sound like a foreign language to you, you are more perceptive than you realize—"debits" and "credits" are words that have been traced back five hundred years to a document describing today's double-entry accounting system. Under the double-entry system every business transaction is recorded in at least two accounts. One account will receive a "debit" entry, meaning the amount will be entered on the left side of that account. Another account will receive a "credit" entry, meaning the amount will be entered on the right side of that account. The initial challenge with double-entry is to know which account should be debited and which account should be credited.

What Is An Account? To keep a company's financial data organized, accountants developed a system that sorts transactions into records called accounts. When a company's accounting system is set up, the accounts most likely to be affected by the company's transactions are identified and listed out. This list is referred to as the company's chart of accounts. Depending on the size of a company and the complexity of its business operations, the chart of accounts may list as few as thirty accounts or as many as thousands. A company has the flexibility of tailoring its chart of accounts to best meet its needs.accountschart of accounts

A chart of accounts is a listing of the names of the accounts that a company has identified and made available for recording transactions in its general ledger. A company has the flexibility to tailor its chart of accounts to best suit its needs, including adding accounts as needed.chart of accountsaccountsgeneral ledger Within the chart of accounts you will find that the accounts are typically listed in the following order: Balance sheet accounts  Assets  Liabilities  Owner's (Stockholders') Equity Income statement accounts  Operating Revenues  Operating Expenses  Non-operating Revenues and Gains  Non-operating Expenses and Losses

Within the categories of operating revenues and operating expenses, accounts might be further organized by business function (such as producing, selling, administrative, financing) and/or by company divisions, product lines, etc. A company's organization chart can serve as the outline for its accounting chart of accounts. For example, if a company divides its business into ten departments (production, marketing, human resources, etc.), each department will likely be accountable for its own expenses (salaries, supplies, phone, etc.). Each department will have its own phone expense account, its own salaries expense, etc.organization chart A chart of accounts will likely be as large and as complex as the company itself. An international corporation with several divisions may need thousands of accounts, whereas a small local retailer may need as few as one hundred accounts.

Each account in the chart of accounts is typically assigned a name and a unique number by which it can be identified. (Software for some small businesses may not require account numbers.) Account numbers are often five or more digits in length with each digit representing a division of the company, the department, the type of account, etc. As you will see, the first digit might signify if the account is an asset, liability, etc. For example, if the first digit is a "1" it is an asset. If the first digit is a "5" it is an operating expense. A gap between account numbers allows for adding accounts in the future. The following is a partial listing of a sample chart of accounts.

Current Assets (account numbers ) Cash - Regular Checking Cash - Payroll Checking Petty Cash Fund Accounts Receivable Allowance for Doubtful Accounts Inventory Supplies Prepaid Insurance Property, Plant, and Equipment (account numbers ) Land Buildings Equipment Vehicles Accumulated Depreciation - Buildings Accumulated Depreciation - Equipment Accumulated Depreciation - Vehicles

Current Liabilities (account numbers ) Notes Payable - Credit Line # Notes Payable - Credit Line # Accounts Payable Wages Payable Interest Payable Unearned Revenues Long-term Liabilities (account numbers ) Mortgage Loan Payable Bonds Payable Discount on Bonds Payable Stockholders' Equity (account numbers ) Common Stock, No Par Retained Earnings Treasury Stock Operating Revenues (account numbers ) Sales - Division #1, Product Line Sales - Division #1, Product Line Sales - Division #2, Product Line Sales - Division #3, Product Line 110

Cost of Goods Sold (account numbers ) COGS - Division #1, Product Line COGS - Division #1, Product Line COGS - Division #2, Product Line COGS - Division #3, Product Line 110 Marketing Expenses (account numbers ) Marketing Dept. Salaries Marketing Dept. Payroll Taxes Marketing Dept. Supplies Marketing Dept. Telephone Payroll Dept. Expenses (account numbers ) Payroll Dept. Salaries Payroll Dept. Payroll Taxes Payroll Dept. Supplies Payroll Dept. Telephone Other (account numbers ) Gain on Sale of Assets Loss on Sale of Assets

Within the chart of accounts the balance sheet accounts are listed first, followed by the income statement accounts. In other words, the accounts are organized in the chart of accounts as follows: Assets Liabilities Owner's (Stockholders') Equity RevenuesRevenues or Income Expenses Gains Losses

Because every business transaction affects at least two accounts, our accounting system is known as a double-entry system. (You can refer to the company's chart of accounts to select the proper accounts. Accounts may be added to the chart of accounts when an appropriate account cannot be found.)double-entry For example, when a company borrows $1,000 from a bank, the transaction will affect the company's Cash account and the company's Notes Payable account. When the company repays the bank loan, the Cash account and the Notes Payable account are also involved.CashNotes Payable If a company buys supplies for cash, its Supplies account and its Cash account will be affected. If the company buys supplies on credit, the accounts involved are Supplies and Accounts Payable.SuppliesAccounts Payable

If a company pays the rent for the current month, Rent Expense and Cash are the two accounts involved. If a company provides a service and gives the client 30 days in which to pay, the company's Service Revenues account and Accounts Receivable are affected.Rent ExpenseService Revenues Accounts Receivable Although the system is referred to as double-entry, a transaction may involve more than two accounts. An example of a transaction that involves three accounts is a company's loan payment to its bank of $300. This transaction will involve the following accounts: Cash, Notes Payable, and Interest Expense. (If you use accounting software you may not actually see that two or more accounts are being affected due to the user-friendly nature of the software. For example, let's say that you write a company check by means of your accounting software. Your software automatically reduces your Cash account and prompts you only for the other accounts affected.)

Accountants and bookkeepers often use T-accounts as a visual aid for seeing the effect of the debit and credit on the two (or more) accounts. (Learn more about accountants and bookkeepers in our Accounting Careers area.) We will begin with two T-accounts: Cash and Notes Payable.Accounting Careers

Cash (asset account)Cash Debit Increases an asset Received $ Credit Decreases an asset Paid $

Notes Payable (liability account)Notes Payable Debit Decreases a liability Repaid loan Credit Increases a liability Borrowed more

Let's demonstrate the use of these T-accounts with two transactions: On June 1, 2009 a company borrows $5,000 from its bank. This causes the company's asset Cash to increase by $5,000 and its liability Notes Payable to also increase by $5,000. To increase the asset Cash the account needs to be debited. To increase the company's liability Notes Payable this account needs to be credited. After entering the debits and credits the T-accounts look like this:

Cash (asset account )Cash Debit Increases an asset Received $ Credit Decreases an asset Paid $ June 1, 2009 ENTRY 5,0 0 0 Notes Payable (liability account)Notes Payable Debit Decreases a liability Repaid loan Credit Increases a liability Borrowed more 5, ENTRY June 1, 2009

Whenever cash is received, the Cash account is debited (and another account is credited). Whenever cash is paid out, the Cash account is credited (and another account is debited). Normal Balances When looking at a T-account for each of the account classifications in the general ledger, here is the debit or credit balance you would normally find in the account: Account Classification Normal Balance AssetsDebit Contra assetCredit LiabilityCredit Contra liabilityDebit Owner's EquityCredit Stockholders' EquityCredit Owner's Drawing or Dividends Account Debit Revenues (or Income)Credit ExpensesDebit GainsCredit LossesDebit