Double-entry bookkeeping is governed by the accounting equation. If revenue equals expenses, the following (basic) equation must be true:assets = liabilities + equity
For the accounts to remain in balance, a change in one account must be matched with a change in another account. These changes are made by debits and credits to the accounts. Note that the usage of these terms in accounting is not identical to their everyday usage. Whether one uses a debit or credit to increase or decrease an account depends on the normal balance of the account. Assets, Expenses, and Drawings accounts (on the left side of the equation) have a normal balance of debit. Liability, Revenue, and Capital accounts (on the right side of the equation) have a normal balance of credit. On a general ledger, debits are recorded on the left side and credits on the right side for each account. Since the accounts must always balance, for each transaction there will be a debit made to one or several accounts and a credit made to one or several accounts. The sum of all debits made in each day’s transactions must equal the sum of all credits in those transactions. After a series of transactions, therefore, the sum of all the accounts with a debit balance will equal the sum of all the accounts with a credit balance.
Debits and credits are numbers recorded as follows:
- Debits are recorded on the left side of a T account in a ledger. Debits increase balances in asset accounts and expense accounts and decrease balances in liability accounts, revenue accounts, and capital accounts.
- Credits are recorded on the right side of a T account in a ledger. Credits increase balances in liability accounts, revenue accounts, and capital accounts, and decrease balances in asset accounts and expense accounts.
- Debit accounts are asset and expense accounts that usually have debit balances, i.e. the total debits usually exceed the total credits in each debit account.
- Credit accounts are revenue (income, gains) accounts and liability accounts that usually have credit balances.
The mnemonic DEADCLIC is used to help remember the effect of debit or credit transactions on the relevant accounts. DEAD: Debit to increase Expense, Asset and Drawing accounts and CLIC: Credit to increase Liability, Income and Capital accounts.
The account types are related as follows:
current equity = sum of equity changes across time (increases on the left side are debits, and increases on the right side are credits, and vice versa for decreases)
current equity = Assets – Liabilities
sum of equity changes across time = owner’s investment (Capital above) + Revenues – Expenses