First, let us recall the definition of an "account". An account is a storage unit that stores similar items or transactions.
Examples of accounts are: Cash, Accounts Receivable, Office Equipment, Accounts Payable, Service Income, Rent Expense, and so on.
Let's take Cash, for instance. The Cash account stores all transactions that involve cash, i.e. cash receipts and cash disbursements.
Debit and Credit
Second, let us define "debit" and "credit". Debit means left and credit means right. Do not associate any of them with plus or minus yet. Debit simply means left and credit means right – that's just it! "Debit" is abbreviated as "Dr." and "credit", "Cr.".
The terms originated from the Latin terms "debere" or "debitum" which means "what is due", and "credere" or "creditum" which means "something entrusted or loaned".
And third, we define what we call "normal balance". Each account has a debit and a credit side. You could picture that as a big letter T, hence the term "T-account". Again, debit is on the left side and credit on the right. Normal balance is the side where the balance of the account is normally found.
Asset accounts normally have debit balances, while liabilities and capital normally have credit balances. Income has a normal credit balance since it increases capital . On the other hand, expenses and withdrawals decrease capital, hence they normally have debit balances.
Now what is the significance of the "normal balance"?
When you place an amount on the normal balance side, you are increasing the account. If you put an amount on the opposite side, you are decreasing that account. Therefore, to increase an asset, you debit it. To decrease an asset, you credit it. To increase liability and capital accounts, credit. To decrease them, debit.
Let us take Cash. Cash is an asset account. Again, asset accounts normally have debit balances. Therefore, to increase Cash you debit it. To decrease Cash, you credit it.
Another example – let's take Accounts Payable. It is a liability account. Liability accounts normally have credit balances. Thus, if you want to increase Accounts Payable, you credit it. If you want to decrease Accounts Payable, you debit it.
The same rules apply to all asset, liability, and capital accounts.
To Sum It Up
Here's a table summarizing the normal balances of the accounting elements, and the actions to increase or decrease them. Notice that the normal balance is the same as the action to increase the account.
|Accounting Element||Normal Balance||To Increase||To Decrease|
Tip: You don't need to memorize the whole table. Just be familiar with the normal balance portion and you'll be okay. The normal balance is the same as the action to increase the account. The action to decrease the account is simply the opposite of that.
Done? Now try these:
- To increase Office Equipment, debit or credit?
- To increase Rent Payable.
- To record/increase Rent Expense.
- To decrease Accounts Payable.
- To record/increase Service Revenue.
- To decrease Cash.
- To record/increase Loss from Fire.
- To decrease Delivery Equipment.
- To increase Accumulated Depreciation
1. Debit; 2. Credit; 3. Debit; 4. Debit; 5. Credit; 6. Credit; 7. Debit; 8. Credit.
What about item #9? How do you increase Accumulated Depreciation?
Accumulated Depreciation is a contra-asset account (deducted from an asset account). For contra-asset accounts, the rule is simply the opposite of the rule for assets. Therefore, to increase Accumulated Depreciation, you credit it.
We will apply these rules and practice some more when we get to the actual recording process.