Key Concepts
Every transaction is recorded as a debit in one account and a credit in another. The accounting elements have natural sides:
| Element / Account | Normal balance | Increases with | Decreases with |
|---|---|---|---|
| Assets | Debit | Debit | Credit |
| Liabilities | Credit | Credit | Debit |
| Equity / Capital | Credit | Credit | Debit |
| Income | Credit | Credit | Debit |
| Expenses | Debit | Debit | Credit |
| Drawings | Debit | Debit | Credit |
DEAD CLIC — Expenses, Assets, Drawings (EAD) increase with Debit; Liabilities, Income, Capital (LIC) increase with Credit:
| Debit balance | Credit balance |
|---|---|
| Expenses | Liabilities |
| Assets | Income |
| Drawings | Capital (Equity) |
To decrease an element, use the opposite side:
- credit a DEAD element (Assets, Expenses, Drawings) to decrease it
- debit a CLIC element (Liabilities, Income, Capital) to decrease it
Applying the Rules to a Transaction
- Identify the accounts affected — which accounts does this transaction affect?
- Classify each account — is it an asset, liability, income, expense, drawings, or capital?
- Did each account go up or down? — determine the direction of change for each account.
- Decide debit or credit:
- If an account increases and normally carries a debit balance (assets, expenses, drawings), debit it.
- If an account increases and normally carries a credit balance (liabilities, income, capital), credit it.
- If the account decreases, use the opposite side.
- Check — total debits must equal total credits.
Example: Owner invested $5,000 cash into the business bank account.
- Cash at bank → it's an Asset → it went up → Asset + increase = Debit
- Capital → it's Capital → it went up → Capital + increase = Credit
The Two-Entry Rule for Sales
Every sale — whether cash or credit — requires two separate entries:
| Entry | What it records | Debit | Credit |
|---|---|---|---|
| 1 — Revenue | What the business earned | Trade receivables / Cash in hand ↑ | Sales revenue ↑ |
| 2 — Cost | What the goods cost | Cost of sales ↑ | Inventory ↓ |
Memory tip:
- Revenue entry = the money side (who owes you or cash received, and what you earned).
- Cost entry = the goods side — Cost of sales is literally the cost of the goods sold.
They never cross — Trade receivables never pairs with Inventory, and Cost of sales never pairs with Sales revenue.
- Amy invested $8,000 cash into the business bank account.
- Purchased inventory on credit from Shu Fen for $1,500.
- Paid rent of $600 by cheque.
- Sold goods to a customer on credit for $900; the goods cost $540.
- Cash at bank → it's an Asset → it went up → Asset + increase = Debit $8,000
- Capital → it's Capital → it went up → Capital + increase = Credit $8,000
- Inventory → it's an Asset → it went up → Asset + increase = Debit $1,500
- Trade payables — Shu Fen → it's a Liability → it went up → Liability + increase = Credit $1,500
- Rent expense → it's an Expense → it went up → Expense + increase = Debit $600
- Cash at bank → it's an Asset → it went down → Asset + decrease = Credit $600
Entry 1 — Revenue:
- Trade receivables → it's an Asset → it went up → Asset + increase = Debit $900
- Sales revenue → it's Income → it went up → Income + increase = Credit $900
Entry 2 — Cost:
- Cost of sales → it's an Expense → it went up → Expense + increase = Debit $540
- Inventory → it's an Asset → it went down → Asset + decrease = Credit $540
Pairing the wrong accounts for a sale. The most common error is debiting Trade receivables and crediting Inventory in a single entry. The two entries for a sale never cross — Trade receivables always pairs with Sales revenue (revenue entry), and Cost of sales always pairs with Inventory (cost entry). Mixing them up misstates both income and assets.
Forgetting the two entries for a sale. Every sale needs both a revenue entry (Trade receivables / Cash in hand Dr, Sales revenue Cr) and a cost entry (Cost of sales Dr, Inventory Cr). Missing the cost entry leaves inventory overstated and cost of sales understated.
Crediting (decreasing) an expense account when paying the expense. Expense accounts track costs incurred — the more you pay, the more they add up. Paying rent does not reduce Rent expense — it increases it. Hence, paying rent increases the Rent expense account (debit). The credit goes to Cash at bank.
Using the wrong cash account. Physical cash → Cash in hand. Cheque or bank transfer → Cash at bank. Never use "Cash" alone as an account name.