Convert the transaction “Purchased office supplies on account” into the language of accounting.
Now I’m going to show you how to remember the rule of debit and credit, so you know, how to prepare the financial statement using this rule. To help you out I had put some information behind me here on the white board. You can start off by writing out this accounting equation, which you would be familiar with, asset equals liabilities plus shareholders equity.
Also to help us understand this rule and remember that, I’m going to use sample transaction here written at the bottom. Sample transaction in plain English, is purchased office supplies on account. I use 4 step processes to help us to take this statement, and convert this statements in plain English into the language of accounting which is the language of debit and credit.
Learning the debit and credit is like learning the new language. So after you master this method, you should be able to take any accounting transaction in plain English, and convert that into debit and credit which again is the language of accounting. So let’s come back to the sample statement, purchased office supplies on account.
The First step in an analysis is to ask yourself. What specific account are affected? The answer would be office supplies and account payable. Why not cash? Because the transaction said you are purchasing office supplies on account which means you are purchasing office supplies on credit. So if you are purchasing on credit, there is no exchange of cash at this moment when you are making purchase. Exchange of cash comes later when you are making a payment. So two accounts affected are office supplies and account payable.
The second step in an analysis is to ask yourself, what category or what family do these two accounts belong to? The answer is office supplies belong to the asset family, and account payable belong to the liabilities family.
Now the third step in an analysis would be like the same question. The question is, Does your office supplies account increase or decrease in value as a result of this transaction?
Next like the same question to account payable. Has your account payable account increased or decreased as a result of purchasing Rp.1,000,000 office supplies on account?
Increases or decreases of assets, liabilities, equities, expenses and revenues.
To help us understand that, let’s go back to the accounting equation. If you have an asset account increasing in value as we do with office supplies in this transaction, the increase in the asset account is denoted by the word debit. I have the word debit DR for short, and then I have the account office supplies. So when you combine the word debit with any asset account, in this case debit office supplies, it means only one thing. You are telling me that office supplies account has increased in value.
Then let’s look at the liability and shareholder equity family because both these family are on the opposite side of equation. They will work the opposite of the asset family, so let’s take the liabilities. When you have transaction as we have here, the liabilities account has increased in value. Then the increase in the liabilities account is denoted by the word credit CR for short. Credit account payable means only one thing that account payable is increasing in value.
Share holder equity works the same way as liability, because as I said a few moment ago, both the share holder equity and liability will work the same way for the purposes of debit and credit rule.
And then we are talking about the decreases. The good news is that the decreases, for each of this family, will work just the opposite of increases. So if you remember the increases, then the decreases is the opposite.
So let’s take assets. If you have another transaction for instance, when your asset account is reducing in decreases value. Such as when you are making a payment. When you are making a payment, what happens to your cash asset account? It is decreasing, isn’t it? So these decreases are denoted by the word credit. So if I said credit cash, then I am saying that a cash asset account is decreasing. And I have shown that here, so the credit of asset means the decrease just the opposite of increases, which would be the debit asset account.
Similarly the decreases for liability account would be debit. So if I said debit account payable, I am saying to you that the account payable which is liability account is going down in value. And similarly debit share holder equities account will also signify reduction in your share holder equities account. So now we talk about the both the increase and the decrease for these three family, which are asset, liability and equity.
Still two more families we talk about, revenues and expenses. I have written revenues here on this side. That is showing you that the rule for revenue is the same as the rule of liability and equity. That’s the purpose of writing the revenue on this side. And conversely the rule for expense are the same as the asset, so I put it on the asset side. So that means when you have an increase expense account, then increase in the expense account is denoted by the word debit.
If you say debit rent expense, then you are telling me that you are recording in new rent expense for this month. Conversely for revenue if you said credit fees earned or sales, would be the example of revenue account, you are telling me that you are recording new sales or new fees earned for this period of time. That covers the rules for all 5 families, asset, liabilities, equity, revenues and expenses.
When you take that statement in plain English, in this case coming back original example, purchased office supplies on account, that statement in plain English is converted into the language of accounting. This statement is called journal entry.
Journal entry is nothing but taking the statement in plain English and explaining the language of debit and credit. Journal entry is typically recorded by the rule of the double entry book keeping .
As long as two debit combined, the rupiah value of two debit combined should be equal to the rupiah value of the one credit. So then journal entry would still be valid as well as in balance.