Have you ever wondered about how to do your own bookkeeping? Understanding how to do this yourself can be a valuable skill if you’re a solopreneur or if you are interested in saving money on business expenses. Before we get into how to do your own bookkeeping, there are a few terms and concepts you must be familiar with.
The Foundation of Bookkeeping – Double-Entry Accounting
Double-entry accounting is a method of recording transactions that requires every bookkeeping entry to have an opposite transaction. This method of accounting ensures your books and records are always balanced.
Having accounts that are in balance doesn’t mean the books and records are accurate. You can use double-entry accounting and have balanced books, but if any entries were made to the wrong accounts then your books and records aren’t going to be accurate.
For the most accurate bookkeeping, it’s important to understand the accounts in your books and records as well as how they behave. For example, you can increase and decrease accounts by debiting them or crediting them. In order to know whether a debit or credit will increase or decrease an account, you must know: (1) What debits and credits are, and (2) How the accounts normally behave. That is, are they normally a debit account or normally a credit account?
Debits and Credits
Debits and credits are how accounts are increased and decreased. A debit is denoted as a positive (+) amount and a credit is denoted as a negative amount (-). However, as you will see when we discuss a business’s chart of accounts, the words positive and negative are not accurate reflections of what debits and credits are.
A useful tool for understanding debits and credits are called T-accounts. These charts, resembling the letter T, always depict debits on the left and credits on the right. What changes with each type of account is how they increase in value. Asset accounts will increase on the left with debits whereas revenue accounts increase on the right with credits. This is the basis of the double-entry accounting system.
For example, sales and revenue accounts are credit accounts. This means they increase with a credit (on the right side of the T-account). It does not in any way mean the revenue account has a negative balance.
Chart of Accounts
A chart of accounts is a list of the accounts you use to record your bookkeeping transactions. Not only does the chart of accounts list the accounts you will be using, but it also lets you know what type of account you are working with. The type of account is important so you know whether its balance increases with a debit or a credit.
Assets are debit accounts and will increase with a debit entry (or on the left of the T-account). Liabilities are credit accounts and increase with a credit entry (or on the right of the T-account). The shareholder’s loan account is a credit account as is retained earnings. Revenue accounts are credit accounts and expense accounts are debit accounts.
Here are some examples of the various types of accounts:
Assets (debit accounts):
- Cash (bank accounts)
- Accounts receivable
Liabilities (credit accounts):
- Credit cards
- Accounts payable
Equity (credit accounts):
- Common stock
- Preferred stock
- Shareholder’s loan
- Retained earnings
Revenue (credit accounts):
Expenses (debit accounts):
- Bank fees
- Repairs & Maintenance
For a more comprehensive chart of accounts, check out this post from Accounting Tools.
Now that you’ve learned the terms and concepts above, be sure to check out Part 2 of our How to Do Your Own Bookkeeping series where we discuss setting up spreadsheets and recording your transactions. If you have questions about double-entry accounting or whether doing your own bookkeeping is right for you, comment below or get in touch.