2. Recording Transactions
Double-Entry and Debit/Credit
Record the business story without treating debit and credit as plus and minus
Double-Entry and Debit/Credit
Debit and credit mean left and right in the recording system. They do not mean good and bad.
| Account type | Increase | Decrease | Usual balance |
|---|---|---|---|
| Asset | Debit | Credit | Debit |
| Expense or distribution | Debit | Credit | Debit |
| Liability | Credit | Debit | Credit |
| Equity or income | Credit | Debit | Credit |
The four-step method
- Describe the event without accounting vocabulary.
- Identify each account and its type.
- Decide whether each account increases or decreases.
- Apply debit/credit and verify equal totals.
Northstar’s first week
| No. | Business event | Debit | Credit |
|---|---|---|---|
| 1 | Owners contribute £100,000 cash | Cash 100,000 | Share capital 100,000 |
| 2 | Bank advances a £60,000 loan | Cash 60,000 | Bank loan 60,000 |
| 3 | Equipment bought for £70,000 cash | PPE 70,000 | Cash 70,000 |
| 4 | Components bought on credit for £24,000 | Inventory 24,000 | Trade payables 24,000 |
| 5a | Bikes sold for £15,000 cash | Cash 15,000 | Revenue 15,000 |
| 5b | Components in those bikes cost £8,000 | Cost of sales 8,000 | Inventory 8,000 |
| 6 | £5,000 paid to suppliers | Trade payables 5,000 | Cash 5,000 |
| 7 | £4,000 collected from an earlier credit customer | Cash 4,000 | Trade receivables 4,000 |
Events 5a and 5b show two different flows: consideration from the customer and inventory consumed. One sale can therefore require more than one entry.
A T-account answers “what is the balance?”
Northstar’s cash ledger is:
| Debit entries | £ | Credit entries | £ |
|---|---|---|---|
| Owner contribution | 100,000 | Equipment | 70,000 |
| Loan | 60,000 | Supplier payment | 5,000 |
| Cash sale | 15,000 | ||
| Receivable collection | 4,000 | ||
| Total | 179,000 | Total | 75,000 |
Closing cash is a £104,000 debit balance.
Three entries students commonly misread
Collect a receivable
Dr Cash £4,000
Cr Trade receivables £4,000
No new revenue: the sale was recognised earlier.
Receive a customer advance
Dr Cash £12,000
Cr Contract liability £12,000
Cash is received, but performance is still owed.
Repay loan principal
Dr Bank loan £5,000
Cr Cash £5,000
Principal repayment is not an expense. Interest is a separate flow.
Error test
An entry can balance and still be wrong. For each entry ask:
- Do the account names describe the event?
- Is the period correct?
- Is an estimate or second entry missing?
- Does the narration point to source evidence?
Quick check
Northstar receives a £10,000 supplier invoice for components already delivered, then pays it next month. Give both entries.
Answer
On receipt: Dr Inventory £10,000; Cr Trade payables £10,000. On payment: Dr Trade payables £10,000; Cr Cash £10,000.