Debits and credits in accounting: What to know

Even though bookkeeping might not be the most exciting task for a business owner, it’s a critical skill to develop as your company grows. When done well, bookkeeping can provide a clear picture of your business’s cash flow, which can help with decision-making, budgeting and profit tracking. 

To keep accurate records, you can balance your books by recording how money moves through your business. This is done through account entries called debits and credits, which are two sides of the same transaction and must always be equal. 

Keep reading to learn more about debits and credits in accounting and why they matter for your business.

What you’ll learn:

• In accounting, debits and credits are entries used to record changes in accounts, showing how money moves through the business.

• Debits and credits affect various types of business accounts—such as expense, liability, asset, equity and revenue accounts—in different ways, but the total debits and credits should always be equal.

• Understanding debits and credits in accounting can provide more insight into your company’s overall financial health and help ensure your financial statements are accurate.

Debits—often shortened to DR—are entries on the balance sheet that increase assets and expenses but decrease liabilities, equity and revenue. In a double-entry accounting system, every transaction includes both a debit and a credit to keep the books balanced. Debits are recorded in monetary terms and can represent items such as cash, expenses or depreciation. 

Debits are recorded on the left side of the account ledger with a corresponding credit on the right. For the books to be balanced, total debits must match total credits.

A credit—CR for short—represents an increase in liabilities, equity or revenue and decreases assets or expenses. Credits are entered on the right side of the account ledger and are always balanced by a debit entry on the left. Like debits, credits are recorded in monetary terms to reflect the full value of a transaction. 

In double-entry accounting, your total credits should always equal your total debits. If you’re using accounting software for recordkeeping, the platform will typically reject any entry where debits and credits don’t balance.

You can typically categorize your business’s financial transactions into one of the five main types of accounts—expense, liability, asset, equity and revenue.

An expense account is a record of a business’s costs, so reviewing it frequently can help you take the necessary steps to improve cash flow and profitability. Expense accounts can include costs such as:

• Supplier payments

• Payroll

• Advertising

• Rent

• Cost of goods sold (COGS)

Debit entries increase expense accounts, while credit entries decrease them.

A liability account tracks what a business owes to others, such as suppliers, lenders, employees or tax authorities. This can include financial obligations like:

• Loans on equipment

• Credit card balances

• Mortgages

• Accounts Payable

Debit entries decrease liability accounts, while credit entries increase them.

An asset account records resources a business owns that are expected to provide a future economic advantage. Examples include:

• Equipment

• Cash and cash equivalents

• Investments

• Inventory

• Accounts Receivable

Debit entries increase asset accounts, while credit entries decrease them.

An equity account shows shareholders’ interest in a company’s assets after its liabilities are accounted for. This could include equity accounts like:

• Distributions

• Dividends

• Retained earnings

• Stocks

Debit entries decrease equity accounts, while credit entries increase them.

Revenue accounts record how much money a business earns from operating activities—its day-to-day revenue-generating activities—and from nonoperating activities, which aren’t directly related to core operations.

Examples of operating activities are:

• Sales of goods and services 

• Customer payments

• Wage and salary payments 

• Payments to suppliers 

Examples of nonoperating activities are:

• Interest income

• Investment income

• Certain borrowing costs

• Losses on asset sales

Debit entries decrease revenue accounts, while credit entries increase them.

To understand how debits and credits work in real-time business scenarios, consider the following examples.

Suppose you’re a sports apparel company that sold $15,000 worth of apparel to a new fitness center in the area. The client buys on credit, so you would enter $15,000 as a debit in your Accounts Receivable account. You would also enter $15,000 in your Revenue account as a credit. The two accounts balance because Accounts Receivable—a current asset—increases with a debit entry, while revenue increases with a credit.

You could input this activity in your general ledger account like this:

Then you see an opportunity to scale your company by offering other types of apparel, but you need to purchase $40,000 worth of equipment on credit from a supplier. Equipment is considered an asset, so you would record a $40,000 debit to your Fixed Assets account to reflect the increase.

But because you made the purchase on credit, it would also increase your liabilities to be paid at a later date. This means you would credit $40,000 to your Accounts Payable account, balancing out the debit and credit.

This activity would look like this:

In accounting, you can’t have debits without credits or credits without debits. Understanding how they’re connected and how they impact your company’s financial well-being provides the foundation for important financial documents, like income statements and balance sheets. With these, you can analyze your business’s performance and make more informed decisions as your company evolves.

If the next step in your business journey is using a business credit card to fuel growth, you can compare business credit cards from Capital One to find one that works best for you and get pre-approved today—without impacting your credit.