Managing your company’s bookkeeping is a difficult task. However, there are many approaches to resolving the task. Double entry bookkeeping is one of them as it increases the quality and dependability of financial records. But, knowing this is one thing, and putting it into practice is another. No worries as Bookifyis here to make this easier for you and break it down. We can help you with any questions you may have about double-entry accounting and make the process less intimidating.
What is Double Entry Bookkeeping?
For every business transaction, an entry is made in at least two accounts in your ledger: as a debit to one account and a credit to another. This method of documenting transactions is known as double entry bookkeeping. In a double-entry accounting system, the debits and credits must match in value.
Double-entry accounting is a practice that is used by firms of all sizes. Mostly, all firms use double-entry accounting, especially those organizations that depend on external finance.
Many facets of accounting are supported by the accounting equation, particularly double entry bookkeeping system. In accounting, the formula is:
Liabilities + Equity = Assets
This equation needs to be in balance. By logging every transaction as a journal entry that balances an equal amount of debits and credits, double-entry accounting keeps this equilibrium.
Key Terms in General Ledger
It’s critical to keep in mind that debits and credits function significantly differently in bookkeeping than they do in other areas of life.
Credits – It shows when funds are transferred out of an account.
Debits – It shows when funds have been moved into an account.
Both credit and debit serve as a symbol for an account’s growth or decline.
Let’s examine how debits and credits represent adjustments to each sort of account in order to comprehend how the accounting equation functions with the double entry bookkeeping approach.
Liabilities: Anything that a business owes is a liability. By debits, the liabilities account increases and by credits, the liabilities account decreases.
Assets: These include both tangible and intangible property. A debit shows the increase in assets whereas a credit reflects the decrease in assets.
Equity: Your whole investment in the business, plus gains or losses, is reflected in the equity accounts. When a debit is made, equity grows; when a credit is made, equity shrinks.
How does Double Entry Bookkeeping Function?
Although it is possible to manually construct numerous ledger accounts, if you’re switching to double-entry accounting, you should also probably migrate to double entry bookkeeping software. You can choose Xero double entry accounting as it is created by keeping business owners, not accountants, in mind.
Simply take these simple steps after deciding to switch to double-entry accounting.
Create a Chart of Accounts
While it is possible to establish a chart of accounts manually, most automated bookkeeping programs take care of this for you. Once you establish your account chart, you can use the double-entry accounting.
A variety of charts of accounts includes:
- Owner’s Equity
Make All Transactions Using Debits and Credit
A credit always appears on the right side of the ledger, whereas a debit always appears on the left. A credit entry will raise the balance of liabilities, revenue, and equity accounts while a debit entry will raise the balance of both asset and expense accounts.
Ensure Each Transfer of Funds Includes Two Components
You can begin inputting your transactions once you’ve set up your chart of accounts and have a basic understanding of debits and credits. It is mandatory to maintain balance in the general ledger, which records debit and credit accounts. The balance sheet, which shows assets fewer liabilities and shows equity, must also be correct.
Review your Income Reports
Without correct accounting records, you will be able to find investors. It gives a clear picture of assets, liabilities, and equity. Therefore double-entry accounting is required to create accurate financial statements.
Let’s go over a basic example to clarify how double-entry accounting functions.
Let’s say XYZ Company purchases $5,000 worth of office equipment and pays for it right away with cash. In this scenario, it would be necessary to raise equipment, one of XYZ’s asset accounts, by $5,000, while reducing cash by $5,000.
The equipment asset account would be debited in this instance, but the Cash account would be credited. It is crucial to remember that following the transaction, the $5,000 credit amount exactly matches the $5,000 debit amount.
Why Double Entry Bookkeeping is Essential for Business?
Bookify advises switching to double-entry bookkeeping if your company is complex. There is a number of reasons why business should use double entry bookkeeping.
Get a Full Statistical Picture
Double-entry accounting is a method that small firms can employ to maintain track of their financial situation and growth. Every financial transaction is documented thanks to this bookkeeping system. It aids in preventing fraud and theft.
A complete picture of the money coming in and going out of your small business is provided by double-entry bookkeeping. Through a methodical process that tracks down every element of the transaction, everything is in chronological order.
Aids Businesses in Making Wiser Financial Decisions
By giving you precise and timely information about the financial situation of your company, the double-entry accounting system can assist you in making wiser financial decisions. You may learn which items are popular, which market categories are expanding, and which ones may require additional reinvestment. You can monitor your spending and the performance of your company.
Reduces Errors in Bookkeeping
In double entry bookkeeping, liabilities, and equity must match assets when generating a balance sheet. If not, you know your books are inaccurate. Businesses can use this precaution to detect errors in their bookkeeping entries. Additionally, it is simpler to identify and fix problems with this accounting technique. You won’t need to worry about tracking errors because the system will alert you when debits and credits are out of balance.
Your company will be held more accountable if its financial reports are precise and fair.
Moreover, anyone considering investing in your company money will be far more likely to do so if you use the double-entry approach because it is more comprehensive and transparent.
Single Entry vs. Double Entry Bookkeeping
It is the oldest way of keeping accounting statements, and it involves recording each financial transaction. Since transactions are only entered once in this system, the corresponding opposing entry is not made.
The one-sided entry makes it impossible to reconcile finances, which increases the likelihood of fraud and mistakes. Hence, it does not fit generally accepted accounting principles (GAAP).
Therefore, double-entry bookkeeping has an edge over single-entry bookkeeping.
|Element||Single Entry Bookkeeping||Double Entry Bookkeeping|
|Definition||A Single Entry System is an accounting method where only one entry is needed to record financial transactions.||The double entry system is an accounting method in which each transaction has an immediate impact on two different accounts.|
|Errors||Difficult to find||Easily Detectable|
|Ledger||Personal and Cash Account||Personal and Nominal Account|
|Prefer For||Small Business||Large Business|
|Financial Statement Preparation||Difficult||Simple|
|Tax||Does not aid in tax preparation||Aid in tax preparation|
|Financial Standing||Hard to predict||Easy to evaluate|
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Frequently Asked Questions
What is the fundamental principle of double-entry accounting?
One of the fundamental principles of accounting is that assets equal liabilities plus equity, and this dictates where credits and debits appear on the accounting file. It helps businesses in tracking the correct flow of cash flow.
How many accounts do you need to keep double-entry books?
Each financial transaction must be recorded using at least two accounting entries in the double-entry accounting system. One account is for debit purposes and the other one is for credit purposes.
What are the four rules of double-entry?
The steps for a double entry
● Maintaining accounting records.
● The separation of each book’s accounts.
● Each account is split in half, with the left side as debit and the right side as credit.
● Record the transactions into two accounts.
How can I begin using double-entry accounting?
You can either begin with a spreadsheet or make use of accounting software if you’re planning to use double-entry accounting. The best option is software, but if your company is extremely small, you might be able to get by using a spreadsheet programe to publish your financial transactions.