The accuracy of a company’s financial record keeping can be increased through double-entry accounting. Learn the fundamentals of double-entry bookkeeping and view double-entry accounting examples in this guide.
No matter the size or sector, a double-entry accounting system is a popular bookkeeping method since it accurately reflects the company’s financial health. Additionally, this bookkeeping technique meets double-entry accounting’s recognised practises and guidelines and US generally accepted accounting standards (GAAP).
This guide will tell you more about the double-entry system, how it works, and its benefits.
What Do You Mean by a Double-Entry System of Bookkeeping?
What is double-entry system? In a double-entry system, each credit and debit transaction has a matching record. Every transaction comprises two elements and impacts two ledger accounts, which forms the foundation of the double-entry accounting system. Every company transaction in the double-entry bookkeeping method involves two or more accounts.
For instance, if a business borrows money from a bank, there will be two entries—one for an asset and one for a liability. This is so that it will raise the assets for the cash balance account and the liabilities for the account for loans that are still owing.
Therefore, there is an equal and opposite entry for every financial transaction in at least two independent accounts. It is common practice to utilise the double-entry method of accounting, which contains thorough descriptions of the services and goods, costs, revenue, bad debt, loans, etc.
Among the rules of double entry system equation are:
Assets = Liability + Equity
Both sides of the equation should add up to the same total. There is an error in the books of accounts if the total assets do not equal the total liabilities plus capital. Every transaction, therefore, requires two entries, and for the books to be in balance, the assets must also grow if the liabilities do.
Understanding Double Entry
A credit in accounting is an input that raises or lowers an asset or liability account. In contrast, a debt. It is an entry that raises or lowers an asset or liabilities account. Transactions are recorded in the double-entry accounting system as debits and credits. The total of all debits must equal all credits since a debit in one account cancels out credit in another.
The accounting process is standardised, the created financial statements are more accurate, and faults are easier to spot thanks to the double-entry system of bookkeeping. Every kind of company account is noted as a debit or a credit.
How Does the Double Entry Accounting System Work?
Maintaining orderly transactions is the goal of the double-entry accounting system. Every transaction in one account must have an equivalent and opposing entry in the other for it to work. For instance, every dollar credited to one account will be recorded as a debit in another. The bookkeeper twice makes the identical entry to represent two distinct transaction circumstances. Thus, this is the meaning of double-entry system.
Accounting experts may identify the breakdown of transactions and cross-check multiple entries made on the credit and debit sides of the accounts using the Chart of Accounts, which is always up to date. The net result of the transaction is shown by creating a dual entry in the two accounts concerned.
For instance, when consumers buy anything, it is deducted from their wallet or bank account, but as they receive the item in return, it appears on their credit report. The shopkeeper similarly enters the sum on the credit side, and the item removed from inventory gets a debit record.
Who Uses the Double-Entry System?
The Financial Accounting Standards Board (FASB) is a non-governmental organisation that guides American corporations. The generally accepted accounting principles (GAAP), the recognised guidelines and procedures for double-entry bookkeeping, are decided upon by them.
A non-governmental organisation called the International Accounting Standards Board (IASB) develops the International Financial Reporting Standards (IFRS), the recognised accounting principles and procedures used outside the United States.
Public corporations are required to adopt the double-entry accounting system and adhere to all GAAP or IFRS guidelines.
A double-entry system of accounting should be used by small enterprises that have more than one employee or want to seek a loan. This technique provides a more precise and thorough way to monitor the company’s financial health and rate of expansion.
Types of Accounts in a Double-Entry Accounting
Numerous accounts are used to record entries using the double-entry system. The primary accounts into which all financial transactions are classified are:
1. Asset Account
All of a company’s assets are listed in this account. Cash, equipment, receivables, and inventory accounts are a few examples of asset accounts. When assets are added, the asset account rises; when they are taken away, it falls.
2. Liabilities Account
The company’s debts to other corporations are all included in the liabilities account. Accounts Payable and Notes Payable are a few examples of liability accounts. Liabilities grow as a business takes out more loans and makes credit-based purchases of products and services. On the other hand, as liabilities are repaid, the account balance decreases.
3. Equity Account
The equity account displays the owner’s capital, subsequent investments, and business earnings. When a business experiences losses or if the proprietor draws money for personal use, the equity account is reduced.
4. Expenses and Revenue
The costs account lists every company expense, including paying rent, utility bills, and employee compensation. The business’s net profit decreases as its costs rise. The revenue account displays every sale the company has ever made. The gross profit of a business increases in direct proportion to revenue.
5. Gains and Losses
The financial outcomes of a company’s non-primary activities and manufacturing procedures are gains and losses. Gains refer to a growth in a company’s worth. On the other hand, losses are noted when a business suffers a financial loss due to secondary activity.
What Documents are Used to Record Entries?
In the double-entry system bookkeeping, transaction recording begins with the journal, followed by a trial balance, ledger, and financial statements.
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- Journal: In this accounting book, you can record transactions sequentially, i.e., in chronological order. You don’t need to balance it.
- Ledger: You must make the final entries in this book. Divide and record the transactions in two separate accounts while balancing them.
- Trial Balance: This is a spreadsheet for bookkeeping that shows the credit and debit balances of all ledger accounts. The trial balance is significant because it preserves the mathematical precision of transactions.
- Financial Statements: These are summaries of reports that indicate the organisation’s financial position, performance, and cash flow.
How is Double-Entry Bookkeeping Better Than Single-Entry?
There are various advantages to using a double-entry system over a single-entry system:
1. Recording Method
Single-entry accounting provides a one-sided image of cash register transactions. At least two accounts in the double entry will record the changes resulting from a single transaction. Investors, banks, and purchasers like the double-entry accounting system because it provides a fuller financial picture of a company.
2. Error Detection
Debits and credits must always be the same in double entry. If this is not the case, there is a problem. This makes it simple to detect the issues and guarantee that they do not spread to other journals and financial statements. There is no technique for error correction or detection in a single entry.
3. Company Size
The single-entry method is only suitable for small firms, but the double-entry system may be utilised by businesses of all kinds, including large ones.
4. Financial Statement Preparation
A single-entry system’s data is insufficient for financial reporting or creating profit and loss statements. Larger organisations rely on these reports to track their performance. Therefore, double-entry accounting provides them with more information.
Double-Entry Bookkeeping Examples
Now that you know the meaning of double entry system, let’s look at a double entry system example. It will show how you can record the transactions.
Double Entry System Example
Suppose ABC Company purchased equipment amounting to Rs 3,500. It would increase the equipment as it becomes an asset for the company. Similarly, it results in a decrease in cases because the company made the payment. Since both cash and equipment are assets, equipment gets debited for Rs 3,500, and cash gets credited for Rs 3,500. In this case, your journal entry will seem like this:
| Ref. | Date | Account Titles and Explanation | Debit | Credit |
| 101 | December 8th | Equipment | Rs 3500 | |
| Cash | Rs 3500 | |||
| (to record purchase of equipment) |
Advantages of a Double-Entry Bookkeeping System
The following are the advantages of a double-entry system:
- It helps to cross-check all the accounting documents accurately.
- You can record both sides of your transactions.
- You can maintain separate for payments and purchases.
- Tracking fraudulent transactions becomes easier.
- It is a scientific method.
- You can calculate profit and loss easily.
Disadvantages of a Double-Entry Bookkeeping System
The following are the disadvantages of a double-entry system:
- This bookkeeping system is a little complex in nature.
- It must respond to different accounting principles and standards.
- Small businesses may not be able to afford this accounting system.
- The maintenance costs are pretty high.
- A double-entry accounting system is time-consuming.
- The process necessitates more manpower.
Conclusion
To sum up, businesses face complicated financial regulations and transactions in today’s fast-paced world. Nevertheless, your business must maintain proper financial records, which are essential for compliance and making informed decisions. Rest assured, using a double-entry accounting system to keep track of your business transactions can be easier.
With this proven and time-tested method, you can maintain cash flow, manage finances, and make better decisions in the future. Lastly, with everything going digital, you can use various tools or apps that help to automate and optimize the process of the double-entry accounting system.
FAQs on Double-Entry Bookkeeping System
How do you write a double-entry bookkeeper?
To begin, document the transaction in an account book or journal. Subsequently, make a debit entry in the expense account and a credit entry in another asset account. Following this, replicate the same transaction in a separate account book or journal, but reverse the entries: credit the expense account and debit another asset account.
What is the format of double-entry?
Double-entry consists of three primary components: the debit, journal, and credit.
What are the types of accounts in double-entry accounting?
Double-entry accounting encompasses five distinct account types, namely:
- Asset
- Liabilities
- Equity
- Expenses and revenue
- Gains and losses