Credit refers to the right side of an account. Each account has two sides: a debit side and a credit side. To credit means to record an amount on the right side of the account.
- Definition of credit
- Origin of the term
- Right side of an account
- When to use credit
Origin of the Term "Credit"
The term "credit" originated from the Latin word "creditum" which means "what is entrusted or loaned". A derivative of creditum – "credere", is believed to be the origin of its abbreviation "Cr".
Right Side of an Account
Each account has a debit side and a credit side. Credit refers to the right side whereas debit pertains to the left. To credit means to enter an amount on the right side of an account.
When to Credit an Account
While debit is associated with "value received", credit on the other hand is associated with the "value given" by the entity. For example, if a company paid (gave) cash, the cash account is credited. If the company gave the debtors the right to collect from the company, a liability account is credited. If it gives the owners a right to the company as a consequence of receiving investments, capital is credited. When the company renders or performs services, revenue is credited.
Liabilities and capital are recorded by crediting them. Revenues when earned are also credited. Assets are normally recorded by debiting them; hence, to decrease an asset, it is credited.
In summary credit is used to:
- Decrease an asset (Cash, Receivables, Inventories, Fixed Assets,..)
- Increase a liability (Accounts Payable, Notes Payable, Loans Payable,..)
- Increase capital (Owner's Capital, Capital Stock, Retained Earnings,..)
- Increase a revenue (Sales, Interest Income, Gain on Sale of Equipment,..)
- Decrease an expense (Salary Expense, Rent Expense, Utilities Expense,..)
Contra accounts are those that are shown as deduction from their related accounts. Crediting them would do the opposite of what it would do to the related account. Credits are also used to:
- Increase a contra-asset (Allowance for Bad Debts, Accumulated Depreciation,..)
- Decrease a contra-liability (Discount on Loans Payable,..)
- Decrease a contra-revenue (Sales Discounts, Sales Returns and Allowances,..)
- Increase a contra-expense (though rarely used, e.g., portion of expense reimbursable)
Note: To do the opposite of any of the above, the account is debited. For example, to increase an asset, it is debited.
1. Mr. Wales invested $100,000 to start a sole proprietorship business. The cash account is debited for $100,000 because the company received cash. The capital account of the owner is increased, hence it is credited. Remember that to increase capital, it is credited.
2. The company purchased supplies on account, for a total of $15,000. The term states that they are to be paid after 15 days. The entry would include a credit to Accounts Payable (a liability account). Remember that to increase a liability account, it is credited. When the company pays for it at the 15th day, Accounts Payable is debited and Cash is credited. Cash is credited because there is a decrease in that asset account, as a result of paying the supplier.
3. ABC Company rendered services and and received cash, $2,000. The entry would be: debit: Cash, and credit: Service Revenue for $2,000. Cash is debited because there is an increase in that asset account. Service Revenue is credited since there is an increase in revenue. Remember that to increase a revenue account, it is credited.