- Assets equal liabilities plus owner's equity.
Debits equal credits.
If you hang on to these two equalities, all will be well.
Let us now see how these two equations work together
with some examples.
Now, notice what these qualities mean for the investment
by owner's transaction we discussed previously.
On an asset account, cash is debited.
It's increased.
An owner's equity account, capital stock is credited.
It's also increased.
There is both a debit and a credit for the transaction,
and we have increased accounts on both sides
of the accounting equation by an equal amount,
thus keeping the accounting equation in balance.
To make sure you understand the relationship
between debits and credits,
the various accounts, and the accounting equation,
we need to examine further
the remaining transactions we've discussed previously.
When cash is borrowed from a bank,
cash is increased with a debit,
and notes payable a liability is increased with a credit.
When inventory is purchased on account,
we have inventory increasing.
Since inventory is an asset,
the inventory account will increase with the debit.
The amount we owe in the future, the liability account,
is also increasing.
We know that liabilities increase with credits.
Now, in the fourth transaction,
we purchased equipment paying cash.
We are exchanging one asset for another.
Assets go up with debits, and they go down with credits.
Since we now have more equipment,
the equipment account will be debited,
and since we have less cash,
the cash account is decreased,
and we know that cash account will be credited
because of the decrease.
Note that every time an account is debited,
other accounts have to be credited for the same amount.
This is a major characteristic
of the double entry accounting system.
The debits must always equal the credits.
This important characteristic creates a practical advantage,
the opportunity for self-checking.
If debits do not equal credits,
an error has been made in analyzing
and recording the entity's activities.
It is very important to understand the relationship
between the various types of accounts
and debits and credits.
The relationship is detailed in this illustration.
Asset accounts increase with debits,
and they decrease with credits.
Liability and owner's equity accounts increase with credits,
and they decrease with debits.
At the end of the day,
assets typically have debit balances.
That is, the amounts being debited are larger
than the amounts being credited.
Also, liabilities
and owner's equity accounts have credit balances.
That is, the amounts being credited are larger
than the amounts being debited.
Now, if this is making your head hurt, don't worry.
You're not the first person
whose head has hurt studying this material.
Think about it.
If it were easy,
you would have digested this material long ago.
This is hard,
but you're right on the edge of a major breakthrough.
Once we combine debits and credits with journal entries,
which are right around the corner,
this will begin to clear up.
Please don't feel bad when this seems hard.
It is hard.
That, after all, is why you're watching this course.
If it were easy, you wouldn't need this course.
Now, please make sure you understand
the information contained in this exhibit.
Once you understand the relationship of debits and credits
to the different types of balance sheet accounts,
things start to make a lot more sense,
and you begin to understand the power behind this very old,
very useful bookkeeping system.