SageAccpac SIMPLY ACCOUNTING Accounting Manual
Simply Accounting
Accounting Manual
Canadian Version
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ACCPAC INTERNATIONAL, INC., Publisher
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Contents
Chapter 1: Listing the Things a Business Owns and
Owes
Starting a Business
.............................................................
Chapter 2: The Balance Sheet
Assets, Liabilities and Equity
Changes in Assets, Liabilities and Equity
....................................................
.........................................
Chapter 3: Changes in Equity
Changes Caused by Withdrawals
Changes Caused by Earnings
................................................
....................................................
Chapter 4: Recording How Earnings Were Made
Revenues and Expenses
When to Record Revenues and Expenses
........................................................
.........................................
Chapter 5: Recording Changes to the Balance
1–1
2–1
2–2
3–1
3–1
4–1
4–3
Sheet
Recording Transactions
Debits and Credits
Debits and Credits on the Balance Sheet
Revenues and Expenses
.........................................................
.............................................................
.....................................................
......................................
Accounting Manual iii
5–1
5–4
5–7
5–8
Chapter 6: A Separate Income Statement
Why and How
Debits and Credits Affect Both Statements
................................................................
.......................................
Chapter 7: The Journal
Why and How
National Construction's Journal
................................................................
.................................................
Chapter 8: The Ledger
Why and How
Posting
.......................................................................
................................................................
Chapter 9: Manual Accounting Systems
Chapter 10: Classified Financial Statements
The Balance Sheet
Assets
Liabilities
Equity
The Income Statement
Revenues
Expenses
Net Income
...................................................................
...................................................................
............................................................
................................................................
........................................................
.................................................................
.................................................................
...............................................................
6–1
6–2
7–1
7–3
8–1
8–2
10–1
10–1
10–2
10–2
10–3
10–4
10–4
10–4
Chapter 11: Adjusting Entries
When and Why
Prepaid Expenses
iv Simply Accounting
...............................................................
.............................................................
11–1
11–2
Use of Supplies
Bad Debts
Depreciation
Accrued Expenses
Accrued Revenues
...............................................................
....................................................................
..................................................................
.............................................................
............................................................
Chapter 12: The Finished Financial Statements
Chapter 13: Starting the Next Accounting Period
11–3
11–3
11–4
11–5
11–7
Closing the Books
Opening the Books
.............................................................
............................................................
Chapter 14: Summary of Financial Statement
Preparation
Chapter 15: Other Types of Legal Organizations
Partnerships
Corporations
..................................................................
.................................................................
Chapter 16: Subsidiary Ledgers
Why and How
Accounts Receivable
Accounts Payable
Payroll
Inventory
.......................................................................
................................................................
..........................................................
.............................................................
.....................................................................
13–1
13–3
15–1
15–3
16–1
16–2
16–2
16–3
16–3
Accounting Manual v
Chapter 17: Open Invoice Accounting for
Payables and Receivables
Late Payment Charges
Discounts
Bad Debts
Prepayments
....................................................................
....................................................................
.................................................................
........................................................
Chapter 18: Payroll Accounting
Determining an Employee's Gross Earnings
Regular Pay
Overtime Pay
Salary
Commission
Taxable Benefits
Vacation Pay
..............................................................
.............................................................
....................................................................
..............................................................
..........................................................
.............................................................
Determining the Employee's Deductions
CPP Contribution
EI Premiums
.........................................................
............................................................
Registered Pension Plan Contributions
...................................................................
Union
Income Tax
Medical
GST Payroll Deductions
..............................................................
.................................................................
..................................................
Calculating the Employer's Associated Expenses
CPP and EI Expenses
Employer's WCB Expenses
.....................................................
...............................................
Updating the Employee's Payroll Record
Creating the Journal Entries
..................................................
Remitting Funds to the Receiver General and Other Agencies
Ontario Employer Health Tax
................................................
Payroll Accounting in the Province of Quebec
.....................................
........................................
.....................................
...............................
......................................
..................................
...................
17–1
17–1
17–2
17–3
18–3
18–4
18–4
18–5
18–5
18–6
18–6
18–8
18–9
18–10
18–12
18–13
18–13
18–14
18–15
18–16
18–16
18–17
18–17
18–19
18–19
18–20
18–22
vi Simply Accounting
Chapter 19: Inventory Accounting
Accounting Control of Inventory
General Ledger Accounts in Inventory Accounting
Tax Considerations in Accounting for Inventory
Goods and Services Tax
Provincial Sales Tax
......................................................
...............................................
...............................
.................................
....................................................
Chapter 20: Cost Accounting
Project Costs
Profit Centres
..................................................................
.................................................................
Chapter 21: Accounting for the GST and PST
Preparing for Tax Accounting
Setting Up General Ledger Accounts
Accounting for Purchases
Accounting for Sales
..........................................................
GST Payroll Deductions
Adjustments
..................................................................
Clearing the Tax Accounts
..................................................
........................................
......................................................
.......................................................
.....................................................
19–3
19–4
19–8
19–8
19–10
20–1
20–2
21–1
21–1
21–2
21–3
21–4
21–4
21–5
Glossary
Index
Accounting Manual vii
Chapter 1
Listing the Things a Business
Owns and Owes
This chapter discusses starting a company, and the relationship
between the things a company owns and the money it owes.
Starting a Business
Jim Brown quits his job and starts his own company to do small
construction contracts. The company is called National
Construction and is a proprietorship. A proprietorship is a
business which keeps accounting records separate from those of
its owner but is not legally separate from its owner. On
February 1, 1995, Brown deposits $50,000 in National
Construction's bank account.
The financial position of the company is a summary of what it
owns and the claims against the things that it owns on the
date of the summary. It can be compared to a snapshot that
shows the position at a specific point in time.
National Construction
February 1, 1995
Things Owned: Claims Against Things Owned:
Cash in Bank $50,000 Jim Brown $50,000
On February 2, National Construction pays cash to buy a dump
truck that costs $10,000. This makes the company's list of things
owned and claims against things owned look like this:
Accounting Manual 1–1
Starting a Business
National Construction
February 2, 1995
Things Owned: Claims Against Things Owned:
Cash in Bank $40,000 Jim Brown $50,000
Truck 10,000
Brown gets his first contract, but to complete it he needs to buy
another truck. It costs $12,000, and on February 3 he convinces
his banker to lend National Construction the money to buy it.
The loan is for a five-year term. National Construction now has
more trucks, but a new category is needed to describe the
bank's claim:
National Construction
February 3, 1995
Things Owned: Claims Against Things Owned:
Cash in Bank $40,000 Bank Loan $12,000
Trucks 22,000 Jim Brown 50,000
Everything the company owns was paid for with either the
bank's money or the money invested by the owner. Notice that
the value of the things owned equals the value of the claims
against things owned. This relationship is always true, and is
the basis for the entire accounting process:
Things Owned = Claims Against Things Owned
Let's look at another example. On February 4, National
Construction buys $1,000 worth of maintenance supplies for the
trucks and the supplier gives National 30 days to pay. Amounts
owed to a supplier who has given you credit are called accounts
payable.
1–2 Simply Accounting
Starting a Business
Here is the updated summary:
National Construction
February 4, 1995
Things Owned: Claims Against Things Owned:
Cash in Bank $40,000 Accounts Payable $ 1,000
Trucks 22,000 Bank Loan 12,000
Maintenance Supplies 1,000
63,000 63,000
Jim Brown 50,000
"Things owned" still equal the "claims against things owned,"
and the changes which were made resulted in an increase of the
same size to both the things owned and the claims against
things owned. Because this summary always balances, we call
this summary of things owned and claims against things owned
a balance sheet. On the balance sheet, things owned are listed
on the left, and claims against things owned on the right.
The claims against things owned are made by two groups of
people: the owner, and others. In law, the owner does not get
his investment back until others have been paid back. For this
reason, it makes sense to break the claims into two groups, with
claims by others ranked first:
National Construction
Balance Sheet
February 4, 1995
Things Owned: Claims Against Things Owned:
Cash in Bank $ 40,000 Accounts Payable $ 1,000
Trucks 22,000 Bank Loan 12,000
Maintenance Supplies 1,000 13,000
$ 63,000 Claims by Owner:
Jim Brown 50,000
$ 63,000
You are now ready to go to Chapter 2 to find out more about
the balance sheet.
Accounting Manual 1–3
Chapter 2
The Balance Sheet
This chapter discusses a company's assets, liabilities, and
equity, and shows how changes in any one of these affect the
other two.
Assets, Liabilities and Equity
Things owned by the company are called assets. Claims by
others are called liabilities. If the owner wants to get back his
investment, he must sell the assets and pay off the liabilities.
What is left over is the owner's equity in the company. The
balance sheet is now presented with the new words:
Assets: Liabilities:
Cash in Bank $ 40,000 Accounts Payable $ 1,000
Trucks 22,000 Bank Loan 12,000
Maintenance Supplies 1,000 13,000
$ 63,000
National Construction
Balance Sheet
February 4, 1995
Equity:
Jim Brown 50,000
$ 63,000
Our statement "Things Owned = Claims Against Things
Owned" can now be rewritten:
Assets = Liabilities + Equity
This statement is the basis of accounting and is accounting's
single most important concept. It is called the accounting
equation.
Accounting Manual 2–1
Changes in Assets, Liabilities and Equity
Changes in Assets, Liabilities and Equity
Since assets equal liabilities plus equity, we know that if assets
increase, then liabilities plus equity must increase by the same
amount. The accounting equation can also be used to say that
changes in assets equal changes in liabilities plus changes in
equity.
Here are some more examples so we can see how assets,
liabilities, and equity are related.
On February 5, National Construction buys some furniture
costing $2,000 for the office Jim Brown has set up in his home.
The supplier gives National 30 days to pay the bill. Our updated
balance sheet has a new asset called furniture, and accounts
payable has increased by the amount of the supplier's bill:
National Construction
Balance Sheet
February 5, 1995
Assets: Liabilities:
Cash in Bank $ 40,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 12,000
Maintenance Supplies 1,000 15,000
Furniture 2,000
$ 65,000
Equity:
Jim Brown 50,000
$ 65,000
2–2 Simply Accounting
On February 7, National buys a front-end loader which costs
$20,000, but this time the bank will only lend $15,000 and the
company must make a down payment of $5,000. Because Brown
expects to buy more equipment related to construction, he
categorizes the front-end loader as Construction Equipment and
puts a value of $20,000 beside it.
Changes in Assets, Liabilities and Equity
He also records the decrease in Cash in Bank of $5,000 (to
$35,000) and the increase in the Bank Loan of $15,000 (to
$27,000):
National Construction
Balance Sheet
February 7, 1995
Assets: Liabilities:
Cash in Bank $ 35,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000
$ 80,000
Jim Brown 50,000
$ 80,000
You are now ready to go to Chapter 3 to find out more about
changes in withdrawals, earnings, and losses.
Accounting Manual 2–3
Chapter 3
Changes in Equity
There are two ways for equity to change. They are investments
or withdrawals by the owner, and earnings or losses by the
company. We have already covered investments by the owner,
so this section will now cover withdrawals, earnings, and
losses.
Changes Caused by Withdrawals
On February 22, Brown needs $2,000 to repair the family car
and takes it out of the company's bank account because he
doesn't have enough money personally. When a proprietor
takes money out of his business, it is called a withdrawal.
The Cash in Bank category goes down by $2,000 (to $33,000)
and the equity category goes down by $2,000 (to $48,000):
National Construction
Assets: Liabilities:
Cash in Bank $ 33,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000
$ 78,000
Changes Caused by Earnings
Brown completes his first gravel hauling contract on February
27 and National Construction is paid $5,000 cash. The Cash in
Bank category therefore increases by $5,000 to $38,000.
Balance Sheet
February 22, 1995
Jim Brown 48,000
$ 78,000
Accounting Manual 3–1
Changes Caused by Earnings
The client paid for the gas, so the hauling contract didn't cost
National anything except Brown's time. This means that
National doesn't owe any of the money to anyone else, and
therefore earned the entire $5,000. Now Brown has to decide
where to record the money that the company earned.
Since assets increased by $5,000 (cash was received), and the
amount of liabilities didn't change (National doesn't owe
anyone anything extra as a result of earning the $5,000), we
know that equity must increase by $5,000 in order to keep the
accounting equation in balance.
This increase in equity was earned by the company, not
invested by the owner, so we show it as a separate category of
equity called Earnings.
Assets: Liabilities:
National Construction
Balance Sheet
February 27, 1995
Cash in Bank $ 38,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000
$ 83,000
Jim Brown 48,000
Earnings 5,000
53,000
$ 83,000
3–2 Simply Accounting
If the company lost money in the future, the losses would
reduce the amount of the earnings by the amount of the loss.
For the same reasons that earnings has its own category,
withdrawals could also have its own category. It has not been
added at this point, though, in order to keep the balance sheet
relatively uncluttered.
You are now ready to go to Chapter 4 to find out about
revenues and expenses.
Chapter 4
Recording How Earnings Were Made
This chapter tells you how to record the money a company
takes in for the goods and services it provides for its customers,
and the money it spends to provide those goods and services.
Revenues and Expenses
Brown completes an excavating contract on March 1 for which
National is paid $6,000 cash. This time he has to pay an
equipment operator $2,000 in wages, which is paid in cash on
March 1.
National took in $6,000 cash and paid out $2,000 in cash. Cash
in Bank therefore increases by $4,000 (to $42,000). Again,
liabilities didn't increase as a result of the contract, so the
earnings section of equity on the balance sheet increases by
$4,000 (to $9,000) to keep it balanced.
Brown can now update his balance sheet for the increase of
$4,000 in Cash in Bank (to $42,000) and the $4,000 increase in
earnings (to $9,000) and be correct, but he will have left out
some very useful and important information. He will not be
able to see on the balance sheet how much cash was received
and spent in order to earn the $4,000.
To show this on the balance sheet, he breaks the earnings
category into two parts, revenues, and expenses; which he uses
to show how much money the company took in and paid out in
order to earn the total of $9,000.
Revenues are the money a company is paid, or expects to be
paid, for goods or services it provides to its customers. The
word Sales is sometimes used in its place for a company that
sells products instead of services. National was paid $5,000 for
Accounting Manual 4–1
Revenues and Expenses
the hauling contract and $6,000 for the excavating contract. Its
total revenues are therefore $11,000.
Expenses are the amount a company spends to provide goods
or services to its customers. National's only expenses for the
contracts are $2,000 in wages. Earnings are what is left over
after expenses are deducted from revenues.
Brown can now update his balance sheet to show the increases
in Cash in Bank and Earnings, as well as show how the earnings
were earned.
He does not have to record the fact that he earned $4,000 for
this last contract directly ($6,000 revenues minus $2,000
expenses), because after expenses are subtracted from revenues
within the earnings category of the balance sheet, this increase
of $4,000 in earnings will have been taken into account
automatically:
National Construction
Balance Sheet
March 1, 1995
Assets: Liabilities:
Cash in Bank $ 42,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000
$ 87,000
Jim Brown 48,000
Earnings
Revenues:
Hauling $ 5,000
Excavating 6,000
Expenses:
Wages 2,000
Earnings 9,000
11,000
57,000
$ 87,000
4–2 Simply Accounting
When to Record Revenues and Expenses
When to Record Revenues and Expenses
Revenue is recorded in the financial records at the time the title
or ownership of the goods or services passes to the customer.
For a company that provides services, this usually means when
the services or the contract for the services are completed.
This means that National doesn't actually have to be paid for
the revenue in order to record the revenue on its balance sheet.
It just has to complete the contract and bill the customer. The
amount receivable from a customer for goods or services is an
asset (it is actually a promise to pay in cash) called an account
receivable.
Expenses are recorded in the financial records either at the time
they are incurred (for example, advertising), or if they can be
matched to a certain good or service provided (for example,
wages for a particular contract). The matching of expenses with
the revenues that they helped generate is called the matching
concept.
This means that National doesn't have to pay for an expense to
be able to record the expense on its balance sheet. It just has to
incur the expense and then record the amount owed to someone
for the expense as an account payable.
Brown completes another hauling contract on March 3 for
which National will be paid $3,000 within 30 days. His expenses
are $2,000 in wages which he pays on March 3 out of cash.
The $3,000 owed to National by the customer is an account
receivable, so Brown sets up an asset category with that name
and assigns it $3,000. At the same time, he increases Hauling
Revenue by $3,000 (to $8,000) because it is the source of the
account receivable.
He records revenue now, even though National hasn't yet been
paid, because for service contracts, revenue is recorded when
the contract is completed.
His expenses for the contract are $2,000 in wages so he increases
Wage Expense by this amount (to $4,000). He records it now
Accounting Manual 4–3
When to Record Revenues and Expenses
because he has already recorded revenue, and wants to match
the expenses for the contract with the revenue for the contract.
At the same time, he decreases Cash in Bank by $2,000 (to
$40,000) to record the payment of the wages.
Assets: Liabilities:
Cash in Bank $ 40,000 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000 Jim Brown 48,000
Accounts Receivable 3,000
National Construction
Balance Sheet
March 3, 1995
$ 88,000
Earnings
Revenues:
Hauling $ 8,000
Excavating 6,000
14,000
Expenses:
Wages 4,000
Earnings 10,000
58,000
$ 88,000
4–4 Simply Accounting
You are now ready to go to Chapter 5 to learn more about
recording changes to the balance sheet.
Chapter 5
Recording Changes to the
Balance Sheet
In this chapter, you will learn why you record revenues and
expenses when they are earned, rather than when they are
actually received and paid. You will also learn how to use
debits and credits to record changes to the balance sheet.
Recording Transactions
Brown can use the version of the balance sheet in Chapter 4 to
record any changes caused by transactions. A transaction is the
exchange of something of value (cash, a service) for something
else of value (a truck, a promise to pay). All the changes
recorded between February 1 and March 3 have been due to
transactions.
National Construction's next completed project is an excavation
contract. On March 5, Brown bills the customer the full amount
of $3,000 and pays $2,000 cash to the subcontractor who did the
work and $500 cash for wages to his employee who supervised
the work. These are two transactions. The first bills the
customer and the second pays the subcontractor and employee.
To record these transactions, he deals with each one separately.
Brown increases Accounts Receivable by $3,000 (to $6,000) and
increases Excavating Revenue by $3,000 (to $9,000). He records
the revenue now because the job is complete.
He decreases Cash in Bank by $2,500 (to $37,500), increases
Wage Expense by $500 (to $4,500), and sets up a new category
called Subcontracts Expenses for $2,000. He records the
Accounting Manual 5–1
Recording Transactions
expenses now because he wants to match them to the revenue
that he has already recorded.
Finished recording, he totals the balance sheet again, with the
following result:
National Construction
Balance Sheet
March 5, 1995
Assets: Liabilities:
Cash in Bank $ 37,500 Accounts Payable $ 3,000
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 30,000
Furniture 2,000 Equity:
Construction Equipment 20,000 Jim Brown 48,000
Accounts Receivable 6,000
$ 88,500
Earnings
Revenues:
Hauling $ 8,000
Excavating 9,000
17,000
Expenses:
Wages 4,500
Subcontracts 2,000
6,500
Earnings 10,500
$ 88,500
58,500
5–2 Simply Accounting
On March 6, National receives the $3,000 owed from the hauling
contract completed on March 3. Brown had accounted for the
money owed to National by increasing Accounts Receivable by
$3,000. Now that National has been paid, Brown must reduce
Accounts Receivable by $3,000 (to $3,000), and increase Cash in
Bank by $3,000 (to $40,500).
Notice that National was paid the $3,000 that it was owed for
the contract, but that no revenue or earnings were recorded as a
result of this payment. This is because the revenue was
recorded at the time the contract was completed.
National is now simply recording the payment of an amount
owed to it. The act of collecting cash owed reduces Accounts
Receivable and increases Cash in Bank, but does not increase
Recording Transactions
National's earnings. Do not confuse the collection of cash with
the earnings earned by providing the goods or services.
This method of accounting for revenue and expenses when they
are earned or incurred, rather than when the cash is actually
received or paid, is called the accrual method. It is one of the
main principles of accounting. The goal of the accrual method is
to accurately match earnings with the events that resulted in the
earnings. These events are the generation of revenue and the
incurring of expenses, not the collection of accounts receivable
and the payment of accounts payable.
This is why revenues and expenses are recorded when they are
earned or incurred, rather than when they are received or paid.
The categories under Assets, Liabilities, Equity, Revenues and
Expenses are called accounts, and that word will be used from
now on. The value assigned to any account (such as Furniture
$2,000) is called the account balance, or balance for short.
Also, on March 6, Brown pays for the maintenance supplies ($1,000)
and furniture ($2,000) purchased earlier on credit. He therefore
reduces the balance of the Cash in Bank account by $3,000 (to
$37,500) and the Accounts Payable account by $3,000 (to zero):
National Construction
Balance Sheet
March 6, 1995
Assets: Liabilities:
Cash in Bank $ 37,500 Bank Loan $ 27,000
Trucks 22,000
Maintenance Supplies 1,000 Equity:
Furniture 2,000 Jim Brown 48,000
Construction Equipment 20,000 Earnings
Accounts Receivable 3,000
$ 85,500
Revenues:
Hauling 8,000
Excavating 9,000
17,000
Expenses:
Wages 4,500
Subcontracts 2,000
6,500
Earnings 10,500
$ 85,500
Accounting Manual 5–3
58,500
Debits and Credits
On the same day, he gets an invoice for a truck tune-up ($200)
and a telephone bill ($100), and interest on National's bank loan
is taken out of the company's bank account by the bank ($400).
He increases Accounts Payable by $300 (to $300), decreases
Cash in Bank by $400 (to $37,100), and at the same time sets up
a Maintenance expense account for $200, a Telephone expense
account for $100 and an Interest expense account for $400.
Finished recording, he now totals the balance sheet again:
National Construction
Balance Sheet
March 6, 1995
Assets: Liabilities:
Cash in Bank $ 37,100 Accounts Payable $ 300
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 27,300
Furniture 2,000 Equity:
Construction Equipment 20,000 Jim Brown 48,000
Accounts Receivable 3,000
$ 85,100
Earnings
Revenues:
Hauling 8,000
Excavating 9,000
17,000
Expenses:
Wages 4,500
Subcontracts 2,000
Telephone 100
Maintenance 200
Interest 400
7,200
Earnings 9,800
$ 85,100
57,800
Debits and Credits
Over time, an easy-to-use and logical system has developed to
record any changes to a balance sheet. It will be used from now
on to explain how to record changes to National's balance sheet.
5–4 Simply Accounting
Debits and Credits
The system involves using the words debit and credit, which
we will now define.
First, it is important to know that any of the accounts can be on
the left or right side of the balance sheet. Because this is true,
the account names could be put in one vertical column, and the
account balances that pertain to each could be placed on the left
or right side of the balance sheet beside them. Accounts then
can have either a left or right balance.
Debit refers to the left side of an account and credit refers to the
right side of an account. Similarly, accounts which have
balances on the left side of a balance sheet have debit balances,
and accounts which have balances on the right side of a balance
sheet have credit balances.
Do not place any additional meanings on these words. In the
practice of accounting, these two words refer only to the left
(debit) and right (credit) sides of an account.
Asset accounts are on the left side of a balance sheet and
therefore have debit balances. Liability and equity accounts are
on the right side of a balance sheet and therefore have credit
balances.
The statement on the next page is National's balance sheet, but
we have set up each account so that it can have either a left
(debit) or right (credit) balance.
For each account, we have put its balance on either the debit or
credit side of the account, whichever is correct for that
particular account. Because we usually rank revenues and
expenses vertically, we have left them out temporarily and only
show Earnings in their place.
Notice that the total of the debit balances equals the total of the
credit balances. We expect this, since this is just another way of
saying that assets equal liabilities plus equity. It is also true then
that if we make any changes to a balance sheet, the total amount
of the debit changes equals the total amount of the credit
changes.
Accounting Manual 5–5
Debits and Credits
National Construction
Trial Balance
March 6, 1995
Cash in Bank 37,100
Trucks 22,000
Maintenance Supplies 1,000
Furniture 2,000
Construction Equipment 20,000
Accounts Receivable 3,000
Accounts Payable 300
Bank Loan 27,000
Jim Brown 48,000
Earnings .
Debit Balanc e Credit Balance
9,800
85,100 85,100
Notice that it is possible for asset accounts to have credit
balances (as long as the balance sheet still balances). For
instance, if Cash in Bank had a credit balance of $3,000, it would
mean that you were overdrawn at the bank by $3,000. Cash in
Bank would still be shown as an asset, but the account balance
displayed beside it would have a negative sign beside it.
5–6 Simply Accounting
The act of increasing the account balance of an account that has
a debit balance is called debiting. Instead of saying "debiting
the account," we could say "debit the account."
The act of increasing the account balance of an account that has
a credit balance is called crediting. Instead of saying "crediting
the account," we could say "credit the account."
To decrease the account balance of an account that has a debit
balance, we would do the opposite of what we would do to
increase it, and therefore credit the account.
Summary of Debit and Credit Theory
Assets = Liabilities + Equity
Asset Accounts Liability Accounts Equity Accounts
Debit to+Credit to
-
Debit to-Credit to
+
Debit to-Credit to
+
Similarly, to decrease the account balance of an account that has
a credit balance, we would debit it.
Debits and Credits on the Balance Sheet
On March 7, National Construction receives $3,000 cash which
was receivable for its first contract. To record this, Brown debits
the Cash in Bank account by $3,000 to record the increase (to
$40,100) and credits the Accounts Receivable account by $3,000
to record the decrease (to zero).
On the same day, he pays his truck tune-up bill of $200. To
record this, he debits the Accounts Payable account by $200 to
record the decrease (to $100) and credits the Cash in the Bank
account by $200 to record the decrease (to $39,900).
Finished recording, he totals the balance sheet again.
Debits and Credits
National Construction
Balance Sheet
March 7, 1995
Assets: Liabilities:
Cash in Bank $ 39,900 Accounts Payable $ 100
Trucks 22,000 Bank Loan 27,000
Maintenance Supplies 1,000 27,100
Furniture 2,000 Equity:
Construction Equipment 20,000
$ 84,900
Jim Brown 48,000
Earnings
Revenues:
Hauling 8,000
Excavating 9,000
17,000
Expenses:
Wages 4,500
Subcontracts 2,000
Telephone 100
Maintenance 200
Interest 400
7,200
Earnings 9,800
57,800
$ 84,900
Accounting Manual 5–7
Debits and Credits
Revenues and Expenses
The debit and credit system also works for revenues and
expenses, but since we place these accounts vertically on the
balance sheet instead of on the left and right, more explanation
is required.
As explained earlier, to increase the balance of an equity
account (invested capital or earnings) we credit it. Increases in
revenue increase the company's earnings, and therefore increase
the equity in the company. Additional revenues should
therefore be recorded as credits to revenue accounts, and
revenue accounts would normally have credit balances.
Similarly, to decrease the balance of an equity account (invested
capital or earnings) we debit it. Increases in expense decrease
the company's earnings, and therefore decrease the equity in the
company. Additional expenses should therefore be recorded as
debits to expense accounts, and expense accounts would
normally have debit balances.
5–8 Simply Accounting
Here is an example. On March 15, Brown completes another
excavating contract for $7,000, for which National Construction
will be paid in 30 days. His expenses are a subcontractor
($5,000, payable in 30 days) and his crew supervisor's wages
($1,000, paid in cash on March 15).
To record the completion of this contract and the related
transactions, Brown first debits Accounts Receivable by $7,000
to record the increase (to $7,000) and credits Excavating
revenue by $7,000 to record the increase (to $16,000), since it
was the source of the account receivable.
He then debits Subcontracts expenses by $5,000 to record the
increase (to $7,000) and credits Accounts Payable by $5,000 to
record the increase (to $5,100).
He then debits Wage expense by $1,000 to record the increase
(to $5,500) and credits Cash in Bank by $1,000 to record the
decrease because the wages have been paid.
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