Debits and Credits explained in the accounting Equation

Uploaded by SuperSshk on 31.08.2011

Hi, I want to talk about debits and credits. We talked about the Accounting Equation a minute ago.
Assets are on the left side of the accounting equation
And Liabilities and Stockholders' Equity are
on the right side of the equation.
That can keep us straight to begin with.
Debits mean left and credits mean right.
Every transaction, like in the accounting equation
Takes at least one debit and at least one credit
And you are not finished with that entry until you have at least one of each.
You can have multiple debits and credits as long as the transaction balances.
It is a different balancing from the accounting equation.
Where they are on the accounting equation determines how
they are treated.
If Assets are on the Left side of the accounting equation
They are going to have Debit balances.
Debit is just a synonym for left.
Left, debit.
Credits are right.
So all the assets, like Cash, our favorite one,
Accounts Receivable, Equipment
have Debit balances.
So whatever an account's balance is supposed to be, then
to increase them you do that.
So if the balance is supposed to be a debit, then
you increase it with a debit.
So what would you do to decrease cash?
A T-account has No negatives and no plusses.
It is all about positioning.
If you want to increase Cash with a debit
what would you do to Decrease it?
You would Credit it.
That is what you will do with Assets, Debit to increase them and Credit to decrease them.
Every asset has its own little T-account.
There is no such thing as an account called Assets or a T-account called Assets.
Then on the liabilites and stockholders' Equity
They are on the right side of the Accounting equation.
When I think of right, I use the synonym, credit
To increase a liability-give me an example of a liability
Accounts Payable
We buy something on credit
We bought a table a few minutes ago on credit
The table would be an asset and we would Debit it.
We would credit Accounts Payable.
To make a liability go up
We credit it.
Now if we pay off that debt we owe for the table
We have $25 on the credit side in Accounts Payable
What would happen when we pay that bill?
It would take the opposite
If there was a credit, which there is in accounts payable, it will take a debit
to accounts payable to get rid of the debt
We would not be buying the table again, so the other side of the entry
would be a credit to what?
Debit Accounts Payable, Credit Cash.
That's how liabilities work.
Stockholders Equity is more complicated.
So Stockholders' Equity
is on the right side of the equation
So normally accounts are the right side of the equation would be increased with Credits.
That's true about Common Stock
Retained Earnings
and Revenue.
All those accounts have positive effects on Stockholders' Equity.
Can you think of some accounts that are negative or minus to Stockholders' equity?
Expenses and Dividends
Expenses reduce Stockholders' Equity
Because they bring Net Income down
And then that brings Retained Earnings down
And then that
brings Stockholders' equity down.
The same thing happens with dividends.
It brings Retained Earnings down.
Does this make sense?
So both of those accounts
Have debit effects, even though they are sitting over here on the right side
of the family.
They have Debit balances
So let's pick an expense
We have to pay rent
for her roadside space.
If she has Rent Expense which will cost her $10 per month
what would that entry be?
If she pays with Cash
I always tell students to remember what happens to Cash
If she pays 10 in cash
Paying cash is going to Credit Cash
Because it brings it down. Credit
Now we need to find a place for the debit
The debit is to Rent Expense.
It is just like working with the Accounting Equation. It is confusing
Because what you need to be thinking about is what is happening to the Total Stockholders' Equity
Every entry must have a debit and a credit.
When you finish recording the journal entries to the T'accounts, you can balance them out.
Total each side of the account
Take the difference and the bigger side is where the balance should be.
Let's do one more before time runs out
Let's say, Maggie sells on credit.
What happens if she sells some lemonade on credit?
On account or on credit means
one of two things, we are using
Accounts Receivable or
Accounts Payable
Maggie sells Lemonade to the next door neighbor
for $5 and they don't have any money
For $5, she is going to debit something and credit something else.
She can't debit Cash, because she did not get any cash.
She gets another account that is just as good as cash
Accounts Receivable.
Since it is an asset it has a debit balance.
She debits Accounts Receivable
What does she credit?
She credits Revenue.
The revenue, remember, makes
Goes through Net Income, then through Retained Earnings, then
it makes Stockholders' equity go up so it has a normal Credit balance.
Do you see the difference?
Let's do one more!
Maggie is doing so well and she had sold stock to her mom
to start the business (Common Stock.)
Now she is going to give some dividends.
She wants to give a dividend of $1
because the business has done so well and she couldn't have done it without the investment.
So if she gives that dividend of a $1 what happens?
It is going to Credit cash of course, because that is what reduces cash
We always put the Debits first in a journal entry but we are just trying to understand
Debit Dividends and Credit Cash.
Placement of these is really important!
When we have posted all the journal entries to the T-accounts or General ledger, we can pull the Trial Balance.
We'll do that next.