Hult International Business School - London
Financial Accounting
Handout 1 – Debits & Credits, T Accounts, Trial
Balance
Fall 2023
-1-
The Accounts (I)
Using a table (below) is not practical, nor is it even feasible for large
businesses that have to record thousands of transactions in
thousands of accounts every day.
Assets
Cash
A/R
Office
Supplies
=
PPE
Computer
Workstation
=
New concepts will help:
•
Instead of using one sheet of paper for all
the accounts, a single sheet of paper will
be used for each account;
•
A stack of these papers (accounts) is called
a General Ledger.
Image source: PowerPoint image library.
-2-
Liabilities
A/P
Debt
+
Shareholder's
Equity
+
John Doe
Capital
The Accounts (II)
Once accounts have been separated, they are further subdivided into two
sides.
• Increases in each account are recorded on one side, whereas the
decreases are recorded on the other side.
• Each side can now be added up, sub-totalled separately;
• Increases and decreases can then be netted out in order to determine the
balance in each account.
Example of a T account for Cash:
•
•
•
$33.8K subtotal on the Left hand side;
$7.5K subtotal on the Right hand side;
$26.3K balance on the Left hand side;
-3-
Debits & Credits (I)
Regardless of the type/name of the account ...
• The Left hand side is the Debit side;
• The Right hand side is the Credit side;
Depending on the type/name of the account ...
• Increases / decreases are recorded on one or the other side of the account.
Image source: http://blog.protectmyid.com/2010/06/07/credit-vs-debit/;
http://allisaccounting.blogspot.com/2012/02/important-to-know-about-debit-and.html
-4-
Debits & Credits (II)
Following these Debit and Credit rules will insure
that:
• Debit balances are equal the Credit balances;
• Sum total of all Debits used to record each transaction will
equal the sum total of all Credits used;
-5-
Debits & Credits Practice (I)
Image source: http://paceprep.wikispaces.com/Debits+and+Credit;
http://basicaccountingconcepts.wordpress.com/2012/03/31/making-sense-of-debits-and-creditsin-accounting/
-6-
Debits & Credits Practice (II)
The Owner’s Equity account below can be further separated
into:
•
•
Common Stock,
Retained Earnings (which is the summary account for Revenues, Expenses
and Dividends).
Image source: http://www.learnaccounting.com/business_accounting/L1_2_double_entry_bookkeeping.php
-7-
Transactions (I) in T Accounts
Transaction impacting Shareholder’s Equity:
1. Shareholder (Winston Wolfe) starts a consulting business by contributing $20,000 of
cash and $1,000 office supplies to the business;
+
Cash
Debit
+
20,000
Credit
-
=
Office Supplies
Debit
+
1,000
Credit
-
Common Stock
Debit
-
2. WW contributes his computer (worth $2,000) to the business;
Computer
Common Stock
=
Debit
+
2,000
Credit
-
Debit
-
-8-
Credit
+
2,000
Credit
+
21,000
Transactions (I) in T Accounts
Transaction impacting Shareholder’s Equity:
3. WW performs a service job for a Customer A and receives $500 from her.
Cash
Debit
+
500
=
Credit
-
Revenue(s)
Debit
-
Credit
+
500
4. WW performs another service job for a Customer B and is promised to be paid $700
in the near future (no payment received yet).
A/R
Debit
+
700
=
Credit
-
Revenue(s)
Debit
-
-9-
Credit
+
700
Transactions (II) in T Accounts
Transaction impacting Shareholder’s Equity:
5. Shareholder (Winston Wolfe) takes $300 out of the business to use for personal use
/ improvement work around his house.
Dividends
Cash
=
Debit
+
300
Credit
-
Debit
+
Credit
300
6. WW pays the $200 monthly business internet bill.
Expense(s)
Debit
+
200
Cash
=
Credit
-
Debit
+
-10-
Credit
200
Transactions (II) in T Accounts
Transaction impacting Shareholder’s Equity:
7. WW receives a $250 council tax bill for the month just ended and is payable in two
weeks time (no payment made yet).
Expense(s)
Debit
+
250
A/P
=
Credit
-
Debit
-
Credit
+
250
8. $300 of office supplies are used up (portion of an asset has been used up).
Expense(s)
Debit
+
300
=
Credit
-
Office Supplies
Debit
+
-11-
Credit
300
Transactions (III) in T Accounts
Transaction impacting Assets only:
9. WW purchases office supplies for $1,500 of company cash.
Office Supplies
Debit
+
1,500
Cash
=
Credit
-
Debit
+
Credit
1,500
10. WW realized he bought too much of office supplies, so he sells $200 worth of it to
another party.
•
These office supplies originally cost $200.
Cash
Debit
+
200
=
Credit
-
Office Supplies
Debit
+
-12-
Credit
200
Transactions (III) in T Accounts
Transaction impacting Assets only:
11. WW collects $500 worth of A/R balance from the transaction when services were
performed on account.
Cash
Debit
+
500
A/R
=
Credit
-
Debit
+
-13-
Credit
500
Transactions (IV) in T Accounts
Transaction impacting Liabilities:
12. WW purchases another computer for $2,000 and agrees to pay at a later date (on
account).
Computer
A/P
=
Debit
+
2,000
Credit
-
Debit
-
Credit
+
2,000
13. $3,000 is borrowed from a bank.
Cash
Debit
+
3,000
Debt
=
Credit
-
Debit
-
-14-
Credit
+
3,000
Transactions (IV) in T Accounts
Transaction impacting Liabilities:
14. WW pays off the council tax bill received earlier.
A/P
Debit
250
Cash
=
Credit
+
Debit
+
-15-
Credit
250
Summarizing Account Balances
Summary of Cash account for Winston Wolfe:
•
•
•
$ 24.20K subtotal on the Debit side;
$ 2.25K subtotal on the Credit side;
$ 21.95K balance on the Debit side;
Cash
Debit
+
20,000
500
200
500
3,000
24,200
21,950
Credit
300
200
1,500
250
2,250
-16-
Summary of All Accounts
Cash
Tr. 1
Tr. 3
Tr. 10
Tr. 11
Tr. 13
Debit
+
20,000
500
200
500
3,000
24,200
21,950
A/R
Credit
300
200
1,500
250
Tr. 5
Tr. 6
Tr. 9
Tr. 14
Tr. 4
2,250
Debit
+
700
200
Office Supplies
Credit
500
Tr. 11
Tr. 1
Tr. 9
Debit
+
1,000
1,500
2,500
2,000
Credit
300
200
500
Computer
Tr. 8
Tr. 10
Tr. 2
Tr. 12
A/P
Tr. 14
Debit
250
250
Tr. 6
Tr. 7
Tr. 8
Credit
-
Common Stock
Credit
+
250
2,000
2,250
2,000
Debt
Debit
-
Tr. 7
Tr. 12
Expense(s)
Debit
+
200
250
300
750
Debit
+
2,000
2,000
4,000
Credit
+
3,000
3,000
Debit
Tr. 13
Revenue(s)
Credit
-
Debit
-
-17-
Credit
+
500
700
1,200
Credit
+
21000
2,000
23,000
Dividends
Tr. 3
Tr. 4
Tr. 5
Debit
+
300
300
Credit
-
Tr. 1
Tr. 2
Summary of All Accounts – Comments
• Debit balances are equal the Credit balances;
• Sum total of all Debits must equal the sum total of all
Credits;
• It applies to every recorded transaction.
A list(ing) of balances for all accounts is called a TRIAL
BALANCE.
-18-
Trial Balance
A trial balance is NOT a financial statement.
•
1.
2.
3.
4.
It is prepared in order to prove that accounts balances DO balance (that
Debits = Credits) before financial statements are prepared.
List all the accounts that have balances in the ledger.
Separate Debit balances from Credit balances (by using separate columns).
List the amounts & add the balances.
Debit
Credit
Verify that Debits = Credits.
•
If they do not ... Find mistakes.
Cash
A/R
Office Supplies
Computer
A/P
Debt
Common Stock
Dividends
Revenue(s)
Expense(s)
Total
-19-
21,950
200
2,000
4,000
2,000
3,000
23,000
300
1,200
750
29,200
29,200
Accounts Balances
Accounts normally have positive balances (as a result of the
Debit / Credit split).
• Asset, Expense and Dividend accounts normally have a Debit
balance.
• Liability, Revenue and Common Stock accounts normally have
a Credit balance.
• Retained Earnings account will have a:
• Credit balance (if the firm is generating profits);
• Debit balance (if the firm is generating losses).
-20-
Permanent & Temporary Accounts
•
•
Accounts that must be closed at the
end of each fiscal year (they don't carry
over any balances into the next year).
•
•
All income statement accounts
(revenues, expenses) as well as the
dividends or owner's drawing accounts.
Image source: http://hotelmule.com/html/77/n-2777-6.html
Accounts that remain open (they carry
over into the next fiscal year and do not
close at the end of the fiscal year).
-21-
All balance sheet accounts (asset
accounts, liability accounts, owner's
equity accounts) except for the
dividends or owner's drawing accounts.
Temporary Accounts (II)
Shareholder's
Equity
Shareholder's
Equity
Winston Fox
Capital
Winston Fox
Capital
+21,000
+2,000
+500
+700
-300
-200
-250
-300
300
200
250
300
1,050
21,000
2,000
500
700
24,200
23,150
Why are temporary accounts used
?
•
•
Temporary accounts are subdivisions of
the Shareholder’s Equity account.
Recording all (thousands of) transactions
directly into Shareholder’s Equity account
would cause a mess at the end of the
fiscal year when time comes to prepare
the Income Statement.
•
•
23,150
-22-
On the debit (left) side there are expenses and
dividends, but which is which ?
On the credit (right) side there are revenues
and investments (common stock), but which is
which ?
Temporary Accounts Closing
Temporary accounts are kept for the duration of the fiscal year and are
closed at the end of the fiscal year.
• Temporary accounts are closed by transferring their balances into Retained
Earnings account (one of two subdivisions of the permanent Shareholder’s
Equity account).
Common Stock
Debit
-
Credit
+
21000
2,000
23,000
Retained Earnings
Debit
200
250
300
300
1,050
Tr. 1
Tr. 2
Dividends
-23-
Credit
+
500
700
1,200
150