ACC205 Week 1 DQ2 Debits and Credits 3
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In this video series we're going to talk about journal entries. How to do journal entries, how to record accounting transactions, and by the end of it you should be comfortable doing basic straightforward journal entries. That's the hope of this section.
Whenever I start to talk about journal inches I actually talk about physics at the beginning of my journal entries. I talk about this guy specifically. Isaac is a very, very famous figure, a very important person in history. I think this is just an urban myth that he was sitting under an apple tree and apple fell on his head and he discovered gravity or something like that. I'm not exactly sure but when I talk about journal entries i always bring up Newton for Newton's third law of motion.
Let's see, laws of motion… there we are. So his first law says an object at rest tends to stay at rest. His second law is this formula: force equals mass times acceleration. Newton's third law states that for every action there's an equal and opposite reaction. I call this the Newtonian law: whenever there's an action in accounting there's always a second action that's equal in strength. That's what makes balance sheets balance. That's why the accounting equation works is because whenever one thing happens to one side of the accounting equation something equal happens on the other side and so on.
Maybe I’ll illustrate that by way of example. Let's say I go to the Toyota dealership and I buy a car for twenty thousand dollars. So you're thinking okay well that's wonderful. So of course that make cars go up by 20 thousand dollars and that's absolutely right but of course there's another piece of the puzzle. Let's assume I bought the car for cash. Well then my company's cash would go down by 20 thousand dollars and all transactions are like this. I mean there's always something going up and some go down but there's always at least two things happening whenever there's a transaction.
So whenever you look at a transaction or problem in real life you've got to look for more than just one piece of the puzzle. One item isn't sufficient so we buy a car for cash our car goes up and our cash goes down and we record a transaction. We said the car's gone up and the cash is gone down but in accounting it's not sufficient. It would make sense to have up arrows and down arrows on the page when we record transactions in accounting but instead we use debit and credit and I want to run through the rules of debits and credits in this part of the video.
So let me just get some fresh paper. To understand debits and credits you have to have a solid definition of assets, liabilities, shareholders equity and all that is supposed to be in shareholders equity: revenues and expenses. We just put revenues and expenses over to the side here. So if you don't have a solid understanding of assets, liability, shareholders equity, revenues and expenses I will make a link pop-up right now to my first video where I define all of these terms.
If you do have a solid definition let's continue. We all know that assets equals liabilities plus shareholders equity is the accounting equation. it's also really relevant for the rules of journal entries and I'm going to refer to this all the time when we practice our journal entries. I'm just going to draw some arrows now and I'm going to fill out a little chart here and I'm going to explain the chart in a minute.
So I'm going to up down, down up, down up… and debit credit, debit credit, debit credit… ok so I've kind of gotten into the chart but a man explained it well. The initials DR stand for debit and CR stand for credit. I looked this up online once to see if that made sense. I believe it comes from either Greek or
Latin root words. Account has been around for a long time and so I believe it's just from a root Latin word but it's something that stayed with so that's my writings. Messy see our debit and credit, debit and credit. So as I said accountants don't draw up arrows and down arrows when they buy and sell assets or when they work on transactions. They record debits and credits. I want to refer to our revenues and expenses and in my class this can be a pretty hard and fast rule generally speaking. It's pretty much going to be this way unless there's some sort of weird reversal. We say well if a company has a revenue that helps the company's shareholders equity the company has a revenue and makes shareholders equity go up. We say revenues are generally speaking going to be credit unless there's some sort of reversal or something weird going on, but generally speaking if a company earns revenue it'll be a credit.
Similarly expenses always hurt shareholders equity. Shareholders equity always goes down when there's expense so expenses are generally debits and in a similar vein dividends that's short for divs make Shareholders equity go down always. Dividends always take a bit. So these are the rules of debits and credits.
Leall for this video.