2. Transaction Analysis
Journal Entries: Debits and Credits
Now we can learn how to record the effects of events in the accounting system. Debits and Credits, Debits and Credits, Debits and Credits... you're going to be hearing it a lot!
Journal Entries: Debits and Credits
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All right now let's talk about transactions and the system of debits and credits. So transactions these are things that are happening all the time right? Every time something happens in the company there is a transaction so you give something up and you receive something in return. Alright. So if you buy some land right? If you buy land you give up cash for the land and you get land right? If you sell something right? You sell the product, you give up whatever inventory you had and you get revenue for selling that, right? So let's talk about how this works. So every transaction is going to affect at least two accounts. And when I talk about accounts that was like cash accounts, receivable accounts, payable, the investment account, retained earnings, whatever it is, there's gonna be two accounts that we're gonna affect. At least when we do a transaction. Okay. And we're gonna use this system of debits and credits. That's what they're called to account for these transactions. So we're gonna have some debits on the transaction and some credits. And what we're gonna see is that every transaction must have an equal amount of debits and credits. Okay. So when we record a transaction, we're gonna record some debits in that transaction and we record some credits in that transaction and they have to equal each other. Alright. So it's still kind of high level. You're gonna see some examples down below. But here I want to show you how these accounts are going to work. We're gonna see that asset accounts and expense accounts they're gonna increase with debits. Okay? So if you wanted to account for, if you receive some cash and you wanted to account for that, you would debit the cash account for that amount. Okay. So that would be how we would increase the asset account. So you can imagine we could decrease an acid or an expense with a credit. Right? So if we had to pay cash for something, we would credit the cash account in that amount. Alright, so it's the opposite with liabilities, Equity and revenue accounts. These accounts are increased with credits. Okay. So this isn't so much to memorize but it is something worth just having having it memorized and eventually it's just gonna be second nature for you. But for now it's really important to know that we're gonna increase our our assets and our expenses with debits and we're gonna increase our liabilities our equity and our revenue with credits. Okay. So that's how it's gonna work. Let's pause here and I'm gonna show you an example. We're gonna we're gonna do a transaction and see how this works. Alright. Let's do that below
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All right. So let's do this example. Fun Times. Happy company purchased the machine for $50,000. Record the transaction. Okay. So this is what we're gonna be doing a lot throughout this course is we're gonna be given a sentence like this about the fun time. Happy company. They purchased the machine and we have to analyze that sentence and turn it into a transaction where we have a journal entry with debits and credits here. Okay. So what they tell us is that we purchased a machine? So what we received was a machine. What did we give up to get that machine? We gave up the 50,000 in cash. Right. So we had $50,000. We don't have that anymore. Now we have a machine instead. Okay. So machines remember a machine, what kind of account is that? Is that going to be an asset? Liability, equity revenue expense. Well, machine is a long term asset, right? It's a machine. It's something that the company owns. And we're gonna use it for a long period of time. So machine is an asset. Right? And what about cash? The cash that we paid the 50,000 in cash. That's also an asset, isn't it? Right. So remember our rules from above. We're gonna increase assets with debits and we decrease assets with credits. Okay. And remember that our debits have to equal our credits. So let me show you how we would write out this journal entry. All right. When we start, you generally want to write your debits first. Okay. And that would be your final journal entry. But when you're trying to figure out the entry and figuring out what's the debits? What's the credits? It doesn't matter what order you put them in. Just start organizing your debits and credits and you want them all to equal out. Okay. So in this situation we got a machine. So we need to increase the machine account by the by the cost of the machine. Okay? So in this case we're going to debit machinery, machinery, let's say would be the account where we keep the value of our machines. Okay? So we're gonna put 50,000 like this. Okay, this is the debit entry. You can't really tell it's a debit or a credit yet. The way you tell the debit from a credit is the credits are gonna be indented. Okay. So remember that since we paid $50,000 in cash, we don't have that cash anymore. We paid that out. We have to decrease our cash account since cash is an asset, we decrease it with a credit. Right? So in this case to show that it's a credit, we're gonna indent, right? There's gonna be this indentation Where we write cache. So that signifies that it's a credit. When we have the indentation, we're also going to invent the number into a separate column over here. So the cash would also have 50,000, but it's a credit, right? These are the debits here and these are the credits. Okay notice that their debits equal the credits in this transaction. Right? We increased our machinery by 50,000 and decrease our cash by 50,000 to account for this transaction. Okay, so this journal entry is complete. We have the accounts debited and credited. That need to be included in the transaction. And one more thing down here, we're gonna kind of follow this format throughout the course just to kind of bring it back to that fundamental equation of assets, equal liabilities plus equity. So what happened in this transaction? The machinery increased by 50,000? Right? Our assets increased by 50,000 plus 50,000. But what else happened in this transaction? We also decreased our assets. Right. We also gave away 50,000 in assets to get 50,000 in assets. So we would actually subtract 50,000 from assets. So this plus 50,000. That's the machinery, right? The machine increased our assets by 50,000. But the cash that we paid for the machine decreased our assets by 50,000. So it's kind of a wash when we look at it from the grand perspective, the level of assets stayed the same. It's just what kind of assets we have now. Right. So we'll see in other transactions, when we start analyzing more, we're gonna see transactions that affect liabilities that affect equity here. We had a case where we paid some cash one of our assets to get another asset. Okay, so let's go ahead and pause here. And in the next example, you guys can try and give it a shot and see if you can figure out the journal entry and then we'll go through it together. Alright, let's do that now.
The Goods Company purchased goods from its suppliers. The goods cost $20,000. Record the transaction.
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