What Is Double-Entry Bookkeeping?

The double-entry accounting method has many advantages over the single-entry accounting method. First and foremost is that it provides an organization with a complete understanding of its financial profile by noting how a transaction affects both credit and debit accounts. It also makes spotting errors easier, because if debits and credits do not match, then something is wrong. To illustrate double entry, let’s assume that a company borrows $10,000 from its bank. The company’s Cash account must be increased by $10,000 and a liability account must be increased by $10,000. Hence, the account Cash will be debited for $10,000 and the liability Loans Payable will be credited for $10,000.

• This practice ensures that the accounting equation always remains balanced; that is, the left side value of the equation will always match the right side value.
• Double-entry accounting is a system of bookkeeping where every financial transaction is recorded in at least two accounts.
• A journal entry refers to the record you’ll make in your general ledger (GL) for every financial transaction.

In double entry accounting, the total of all debit entries must match the total of all credit entries. To account for the credit purchase, entries must be made in their respective accounting ledgers. Because the business has accumulated more assets, a debit to the asset account for the cost of the purchase ($250,000) will be made. To account for the credit purchase, a credit entry of $250,000 will be made to notes payable. The debit entry increases the asset balance and the credit entry increases the notes payable liability balance by the same amount. Every modern accounting system is built on the double entry bookkeeping concept because every business transaction affects at least two different accounts.

Why is double-entry bookkeeping important?

Without double entry accounting, it is only possible to report an income statement. This means that determining the financial position of a business is dependent on the use of double entry accounting. Put simply, double-entry accounting is a ubiquitous bookkeeping system that tracks where money comes from and where it goes. The main tenet of double-entry accounting is after a financial transaction, each entry made into an account has a corresponding opposite entry made into a separate account. When shown side-by-side in a ledger, the entry listed on the left side is referred to as a debit entry while the entry shown on the right side is called a credit entry.

The trial balance labels all of the accounts that have a normal debit balance and those with a normal credit balance. The total of the trial balance should always be zero, and the total debits should be exactly equal to the total credits. The Accounting Equation is simple and concise, but it can be expounded and elaborated upon to produce more complicated financial documents such as the balance sheet. You may have noticed the similarities between this equation and the information presented in a balance sheet, where a company’s total assets are equal to the total liabilities plus shareholders’ equity. The balance sheet is one of the three most important financial documents for any business owner. Alongside your income statement and cash flow statement, it gives you, your accountant, and your financial investors a well-rounded snapshot of your business’s financial health.

What does double entry mean?

Accounting software usually produces several different types of financial and accounting reports in addition to the balance sheet, income statement, and statement of cash flows. A commonly used report, called the «trial balance,» lists every account in the general ledger that has any activity. A double entry accounting system requires a thorough understanding of debits and credits. The accounting equation forms the foundation of double-entry accounting and is a concise representation of a concept that expands into the complex, expanded, and multi-item display of the balance sheet.

Growing a business requires an increasing number of accounting transactions. You might start your business by handling accounting tasks yourself, then decide to hand off the day-to-day transaction input to a bookkeeper as you grow. A bookkeeper keeps track of day-to-day business finances, like recording transactions and managing general ledgers. Good bookkeepers are organized, skilled with numbers, and natural problem-solvers. The double-entry system began to propagate for practice in Italian merchant cities during the 14th century. Before this there may have been systems of accounting records on multiple books which, however, do not yet have the formal and methodical rigor necessary to control the business economy.

Accounting entries

Everything on the left side of the equation, the assets, has a debit balance. Everything on the right side of the equation, liabilities and equity, has a credit balance. A key reason for using double entry accounting is to be able to report assets, liabilities, and equity on the balance sheet.

And while single-entry accounting has its uses for independent contractors or sole proprietorships, it is ineffective for small businesses bookkeeping. Let’s take a look at the accounting equation to illustrate the double entry system. Here is the equation with examples of how debits and credit affect all of the accounts.

A bookkeeper will complete these steps and use the chart of accounts to post every journal entry and financial transaction within the general ledger. Since accountants use the information gathered by bookkeepers to prepare larger financial statements and reports, the accounting process wouldn’t be possible without the help of bookkeepers. Regardless of the type of bookkeeping a company chooses, recording the day-to-day business financial transactions is an integral part of accounting. When you generate a balance sheet in double-entry bookkeeping, your liabilities and equity (net worth or “capital”) must equal assets.

Double-entry bookkeeping

This is commonly illustrated using T-accounts, especially when teaching the concept in foundational-level accounting classes. However, T- accounts are also used by more experienced professionals as well, as it gives a visual depiction of the movement of figures from one account to another. The early beginnings and development of accounting can be traced back to the ancient civilizations in Mesopotamia and is closely related to the development of writing, counting, and money. The concept of double-entry bookkeeping can date back to the Romans and early Medieval Middle Eastern civilizations, where simplified versions of the method can be found.

The beauty of double entry bookkeeping lies in its ability to track finances as they move through the business. A bookkeeper can manage most of these tasks, but an accountant takes them further by using those financial statements to offer valuable financial advice. In double-entry bookkeeping, debits and credits are terms used to describe the 2 sides of every transaction. Debits are increases to an account, and credits are decreases to an account.

Small Business Accounting Services

Your accounts must always have the debit amount equal to the credit amount for this method to work. Proper recording of transactions in this way will mean an accurate tracking of cash flow and an overall balanced financial depiction of your small business. The double-entry system of accounting or bookkeeping means that for every business transaction, amounts must be recorded in a minimum of two accounts. The double-entry system also requires that for all transactions, the amounts entered as debits must be equal to the amounts entered as credits. The software lets a business create custom accounts, like a “technology expense” account to record purchases of computers, printers, cell phones, etc.

• This equation means that the total value of a company’s assets must equal the sum of its liabilities and equity.
• Or, FreshBooks has a simple accounting solution for small business owners with no accounting background.
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Essentially, the representation equates all uses of capital (assets) to all sources of capital (where debt capital leads to liabilities and equity capital leads to shareholders’ equity). For a company to keep accurate accounts, every single business transaction will be represented in at least two of the accounts. Every day, more and more business owners trust FinancePal’s small business accounting services. As always, we recommend that you go directly to your own accountant, CPA, bookkeeper, business banker, or tax advisor.

If you’re ready to use double-entry accounting for your business, you can either start with a spreadsheet or utilize an accounting software. In double-entry accounting, you still record fundamentals of financial accounting the $5.50 in your cash account, but you also record that $5.50 as an expense. Using this system reduces errors and makes it easier to produce accurate financial statements.

For example, when a company takes out a loan from a bank, it receives cash from the loan and also creates a liability that it must repay in the future. This single transaction affects both the asset accounts and the liabilities accounts. For the accounts to remain in balance, a change in one account must be matched with a change in another account. 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.