1. INTRODUCTION TO ACCOUNTING Problems and Exercises
UNIT 5: Debits and Credits
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Debits and Credits
The Trial Balance
Problems and Exercises
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2. Let me introduce you to the world of debits and credits.
Fixing the Confusion
The reason that transactions don’t add up to zero is because you’re not doing things the “accounting way”.
Dictionary
Let me introduce you to the world of debits and credits.
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3. T-Accounts: Debits and Credits
Traditionally, every account was written as a “T-account”, with a left side and a right side.
Debits (Dr) are recorded on the left side of the T-account.
Credits (Cr) are recorded on the right side of the T-account.
Dictionary
Example: Cash (A)
Debits
Credits
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4. Revenues, Liabilities and Owners’ Equity
Sources of Funds:
Revenues, Liabilities and Owners’ Equity
The primary sources of funds ($$$ IN) to build and operate a business are revenues (customers), liabilities (banks, etc.) and owners’ equity (investors).
These accounts increase on the right credit side of their T-accounts, and decrease on the left debit side of their T-accounts.
Dictionary
Sources of Funds
Revenues
Liabilities
Owners’ Equity
Debit
Credit
For these accounts, record decreases in the balance as debits.
For these accounts, record increases in the balance as credits.
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5. The business receives a bank loan for $1,000.
Sources of Funds:
Account Balance
The balance of revenue, liability and owners’ equity accounts is determined by subtracting debits from credits.
Example:
The business receives a bank loan for $1,000.
The next month, the business pays back $200 of the loan.
Dictionary
Bank Loan (L)
Notice that there are no negative numbers. Recording a (positive) debit takes away from the account balance.
$1,000 (Cr)
$200 (Dr)
Credit Balance = $800 (Cr)
time
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6. Uses of Funds: Assets and Expenses
The primary uses of funds ($$$ OUT) in building and operating a business are purchases of assets and payments of expenses.
These accounts increase on the left debit side of their T-accounts, and decrease on the right credit side of their T-accounts.
Dictionary
Uses of Funds
Assets
Expenses
Debit
Credit
For these accounts, record increases in the balance as debits.
For these accounts, record decreases in the balance as credits.
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7. Uses of Funds: Account Balance Cash (A) Back Next
The balance of asset and expense accounts is determined by subtracting credits from debits.
Example:
The business receives a bank loan of $1,000 cash.
Then the business buys an asset for $250 cash.
Dictionary
Cash (A)
$1,000 (Dr)
$250 (Cr)
Debit Balance = $750 (Dr)
time
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8. Summary of Debits and Credits
Expenses
Revenues Dr Cr Dr Cr
Income Statement
Dictionary
Assets
Liabilities Dr Cr Dr Cr
Balance Sheet
Owners’ Equity Dr Cr
Asset and Expense accounts will always have a debit (Dr) balance.
Revenue, Liability and Owners’ Equity accounts will always have a credit (Cr) balance.
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9. Remembering Debits and Credits:
Cash is Key
To help remember debits and credits, remember that cash is key.
Dictionary
(Dr) Cash must be offset by … (Cr)
Credit Transactions
Other Asset (example: sell securities)
Revenue (example: sell something to customer)
Liability (example: borrow money from bank)
Owners’ Equity (example: new investment by owners)
Debit Transactions
(Cr) Cash must be offset by … (Dr)
Other Asset (example: buy inventory)
Expense (example: pay salaries)
Liability (example: pay back money to bank)
Owners’ Equity (example: owners’ draw or dividend)
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10. Debits & Credits: Example (update account balances)
Transaction: Owner invests $10,000 into business.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Cash (A) $10,000
(Cr) Owner’s Capital (OE) $10,000
* In the Journal, the debit entry is places above and to the left of the credit entry.
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11. Debits & Credits: Example (update account balances)
Example: Pay electricity bill of $124 with cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Electricity (E) $124
(Cr) Cash (A) $124
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12. Debits & Credits: Example (update account balances)
Example: Buy $1,545 of inventory (things to sell) with cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Inventory (A) $1,545
(Cr) Cash (A) $1,545
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13. Debits & Credits: Example (update account balances)
Example: Do work “on credit” for a customer, who now owes you $675.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Accounts Receivable (A) $675
(Cr) Service Income (R) $675
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14. Debits & Credits: Example (update account balances)
Example: Buy $1,267 of inventory on credit.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Inventory (A) $1,267
(Cr) Accounts Payable (L) $1,267
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15. Debits & Credits: Example (update account balances)
Example: Borrow $16,500 cash from the bank.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Cash (A) $16,500
(Cr) Bank Loan (L) $16,500
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16. Debits & Credits: Example (update account balances)
Example: Pay back a loan from the bank of $16,500 with cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Bank Loan (L) $16,500
(Cr) Cash (A) $16,500
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17. Debits & Credits: Example (update account balances)
Example: The owner takes $2,000 cash out of the business for personal use.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Owners’ Draw (OE)
(Cr) Cash (A) $2,000
As a contra equity account (see previous unit), Owner’s Draw increases on the debit side.
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18. Debits & Credits: Example (update account balances)
Example: The business pays off a $169 Account Payable with cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Accounts Payable (L) $169
(Cr) Cash $169
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19. Debits & Credits: Example (update account balances)
Example: A customer pays off her $67 bill to the business with cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Cash (A) $67
(Cr) Accounts Receivable (A) $67
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20. Debits & Credits: Example (update account balances)
Example: Buy $1,267 of inventory on credit.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
Now
Inventory (A) $1,267
Accounts Payable (L) $1,267
Now
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21. Debits & Credits: Example (update account balances)
Example: Sell $411 inventory for $675 cash.
Journal
(enter transactions)
Ledger
(update account balances)
Dictionary
(Dr) Cash (A) $675
(Dr) Cost of Goods Sold (E) $411
(Cr) Inventory (A) $411
(Cr) Sales (R) $675
* Note how this transaction makes sense once it is written in debits and credits.
Debits ($675 + $411) = Credits (same)
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22. Trial Balance and Pre-Closing Pre-Closing Balance Sheet
Financial Statements
Income Statement
The Trial Balance
Dictionary
Pre-Closing Balance Sheet +
The Trial Balance always balances, and is used frequently by accountants to check their work.
Notice that $9,808 + $815 = $9,913 (same as Assets)
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23. Debits & Credits: Example Now you know why I love accounting!
Dictionary
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24. End of Unit 5 Questions and Problems
The following problems require the calculation of various statistics using MS Excel. The problems are linked to actual Excel spreadsheets, where students should do their work.
Dictionary
Exercise: Just as in the examples in this unit….. (a) For each transaction below, make a Journal entry and post it to the Ledger using debits and credits. Create new accounts as necessary, as you go along. Maintain account balances. (b) After the last transaction, list all account balances and place them as appropriate on the financial statements.
(transactions listed next page)
Take Notes
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25. End of Unit 5 Questions and Problems
Transactions
Dictionary
Take Notes
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End