Double-entry bookkeeping

Double-entry bookkeeping, also known as double-entry accounting, is a method of bookkeeping in which every financial transaction is recorded with equal and opposite entries in at least two accounts, ensuring that total debits equal total credits.^[1] The double-entry system records two sides, known as debit and credit, following the principle that for every debit there must be an equal and opposite credit.^[2] A transaction in double-entry bookkeeping always affects at least two accounts, always includes at least one debit and one credit, and always has total debits and total credits that are equal. The purpose of double-entry bookkeeping is to maintain accuracy in financial records and allow detection of errors or fraud.^[3]

For example, if a business takes out a bank loan for $10,000, recording the transaction in the bank's books would require a debit of $10,000 to an asset account called "Loan Receivable", as well as a credit of $10,000 to an asset account called "Cash". For the borrowing business, the entries would be a $10,000 debit to "Cash" and a credit of $10,000 in a liability account "Loan Payable". For both entities, total equity, defined as assets minus liabilities, has not changed.

The basic entry to record this transaction in the example bank's general ledger will look like this:

	Debit	Credit
Loan Receivable	$10,000
Cash		$10,000

Double-entry bookkeeping is based on "balancing" the books; that is to say, satisfying the accounting equation. The accounting equation serves as an error detection tool: if at any point the sum of debits for all accounts does not equal the corresponding sum of credits for all accounts, an error has occurred. However, satisfying the equation does not necessarily guarantee a lack of errors. For example, the wrong accounts could have been debited or credited.

History

Main article: History of accounting

Della mercatura e del mercante perfetto by Benedetto Cotrugli, cover of 1602 edition; originally written in 1458

The earliest extant accounting records that follow the modern double-entry system in Europe come from Amatino Manucci, a Florentine merchant at the end of the 13th century.^[4] Manucci was employed by the Farolfi firm and the firm's ledger of 1299–1300 evidences full double-entry bookkeeping. Giovannino Farolfi & Company, a firm of Florentine merchants headquartered in Nîmes, acted as moneylenders to the Archbishop of Arles, their most important customer.^[5] Some sources suggest that Giovanni di Bicci de' Medici introduced this method for the Medici bank in the 14th century, though evidence for this is lacking.^[6]

The double-entry system began to propagate between Italian merchant cities during the 14th century. Before this, there may have been systems of accounting records on multiple books which did not yet have the formal and methodical rigor necessary to control the business economy. In the course of the 16th century, Venice produced the theoretical accounting science by the writings of Luca Pacioli, Domenico Manzoni, Bartolomeo Fontana, the accountant Alvise Casanova^[7] and the erudite Giovanni Antonio Tagliente.

Benedetto Cotrugli (Benedikt Kotruljević), a Ragusan merchant and ambassador to Naples, described double-entry bookkeeping in his treatise Della mercatura e del mercante perfetto. Although it was originally written in 1458, no manuscript older than 1475 is known to remain, and the treatise was not printed until 1573. The printer shortened and altered Cotrugli's treatment of double-entry bookkeeping, obscuring the history of the subject.^[8][9] Luca Pacioli, a Franciscan friar and collaborator of Leonardo da Vinci, first codified the system in his mathematics textbook Summa de arithmetica, geometria, proportioni et proportionalità published in Venice in 1494.^[10] Pacioli is often called the "father of accounting" because he was the first to publish a detailed description of the double-entry system, thus enabling others to study and use it.^[11][12][13]

In early modern Europe, double-entry bookkeeping had theological and cosmological connotations, recalling "both the scales of justice and the symmetry of God's world".^[14]

Accounting entries

An example of a cash account recorded in double-entry from 1926 showing a balance of 359.77

In the double-entry accounting system, every financial transaction requires at least two entries to ensure balance between accounts.^[15] These entries are recorded across different types of accounts, including assets, liabilities, equity, expenses, and revenues.^[16] When a debit is recorded in one or more accounts, an equal credit is entered in other accounts, ensuring that total debits equal total credits in the general ledger.^[17] If the accounting entries are recorded without error, the aggregate balance of all accounts having Debit balances will be equal to the aggregate balance of all accounts having Credit balances. Entries typically share the same date and identifying code across related accounts, enabling them to be traced back to journals and source documents, thereby preserving an audit trail.^[18] The accounting entries are recorded in the "Books of Accounts". Regardless of how many accounts a transaction affects, the fundamental accounting equation, assets equal liabilities plus equity, always holds.^[19]

Approaches

The double-entry system can be applied using two main methods: the traditional approach (British approach) and the accounting equation approach (American approach). Regardless of the method, every transaction maintains two aspects, debit and credit.^[20] Irrespective of the approach used, the effect on the books of accounts remains the same, with two aspects (debit and credit) in each of the transactions.

Traditional approach

Under the traditional (British) approach, accounts are divided into three categories: real accounts, personal accounts, and nominal accounts.^[21] Real accounts are accounts relating to assets both tangible and intangible in nature. Personal accounts are accounts relating to persons or organisations with whom the business has transactions and will mainly consist of accounts of debtors and creditors. Nominal accounts are accounts relating to revenue, expenses, gains, and losses. The golden rules of accounting guide the traditional approach:

1. Real accounts: Debit what comes in, credit what goes out.
2. Personal accounts: Debit the receiver, credit the giver.
3. Nominal accounts: Debit expenses and losses, credit incomes and gains.^[22]

Accounting equation approach

The accounting equation approach, also called the American approach, records transactions on the basis of the accounting equation: Assets = Liabilities + Equity.^[23] The accounting equation is a statement of equality between the debits and the credits. The rules of debit and credit depend on the nature of an account. For the purpose of the accounting equation approach, all the accounts are classified into the following five types: assets, capital, liabilities, revenues/incomes, or expenses/losses.

If there is an increase or decrease in a set of accounts, there will be equal decrease or increase in another set of accounts.

In this approach, debit and credit rules are applied as follows:

1. Assets: Debit increases, credit decreases.
2. Capital: Credit increases, debit decreases.
3. Liabilities: Credit increases, debit decreases.
4. Revenue: Credit increases, debit decreases.
5. Expenses: Debit increases, credit decreases.^[24]

These five rules guide learning about accounting entries and are comparable with traditional (British) accounting rules.

Books of accounts

In double-entry bookkeeping, every financial transaction is entered into at least two nominal ledger accounts to ensure that total debits equal total credits, maintaining balance in the general ledger.^[25] This is a partial check that each and every transaction has been correctly recorded. Each transaction is recorded as a "debit entry" (Dr) in one account, and a "credit entry" (Cr) in a second account. Debits are posted on the left-hand side of a ledger account, while credits are posted on the right-hand side.^[26] If the total of the entries on the debit side of one account is greater than the total on the credit side of the same nominal account, that account is said to have a debit balance.

Double entry is applied within nominal ledgers, while daybooks (journals) typically serve as preliminary records and are not part of the nominal ledger itself.^[27] The information from the daybooks will be used in the nominal ledger and it is the nominal ledgers that will ensure the integrity of the resulting financial information created from the daybooks (provided that the information recorded in the daybooks is correct).

The reason for this is to limit the number of entries in the nominal ledger: entries in the daybooks can be totalled before they are entered in the nominal ledger. If there are only a relatively small number of transactions it may be simpler instead to treat the daybooks as an integral part of the nominal ledger and thus of the double-entry system.

However, as can be seen from the examples of daybooks shown below, it is still necessary to check, within each daybook, that the postings from the daybook balance.

Nominal ledger accounts form the basis for preparing a trial balance, which lists debit and credit balances in two columns to confirm that total debits equal total credits.^[28] The trial balance lists all the nominal ledger account balances. The list is split into two columns, with debit balances placed in the left hand column and credit balances placed in the right hand column. Another column will contain the name of the nominal ledger account describing what each value is for. The total of the debit column must equal the total of the credit column.

Debits and credits

Main article: Debits and credits

Double-entry bookkeeping is structured around the accounting equation, which states that:

Assets = Liabilities + Equity.

This relationship ensures that changes in one account are matched with corresponding changes in another, maintaining balance.^[29]

For the accounts to remain in balance, a change in one account must be matched with a change in another account. These changes are made by debits and credits to the accounts. Note that the usage of these terms in accounting is not identical to their everyday usage. Whether one uses a debit or credit to increase or decrease an account depends on the normal balance of the account.

In practice, debits and credits follow consistent rules:

• Asset, Expense, and Drawing accounts typically carry a debit balance.
• Liability, Revenue, and Capital accounts typically carry a credit balance. Debits are entered on the left-hand side of a ledger, while credits are entered on the right-hand side.^[30]

On a general ledger, debits are recorded on the left side and credits on the right side for each account. Since the accounts must always balance, for each transaction there will be a debit made to one or several accounts and a credit made to one or several accounts. The sum of all debits made in each day's transactions must equal the sum of all credits in those transactions. After a series of transactions, therefore, the sum of all the accounts with a debit balance will equal the sum of all the accounts with a credit balance.

Debits and credits are numbers recorded as follows:

• Debits are recorded on the left side of a ledger account, a.k.a. T account. Debits increase balances in asset accounts and expense accounts and decrease balances in liability accounts, revenue accounts, and capital accounts.
• Credits are recorded on the right side of a T account in a ledger. Credits increase balances in liability accounts, revenue accounts, and capital accounts, and decrease balances in asset accounts and expense accounts.
• Debit accounts are asset and expense accounts that usually have debit balances, i.e. the total debits usually exceed the total credits in each debit account.
• Credit accounts are revenue (income, gains) accounts and liability accounts that usually have credit balances.

	Debit	Credit
Asset	Increase	Decrease
Liability	Decrease	Increase
Capital	Decrease	Increase
Revenue	Decrease	Increase
Expense	Increase	Decrease

To aid learning, mnemonics are often used:

• DEADCLIC: Debit to increase Expense, Asset, Drawing; Credit to increase Liability, Income, Capital.
• DEA-LER: Debit increases Dividend, Expense, Assets; Credit increases Liabilities, Equity, Revenue.^[31]

Equity is defined by the residual interest in assets after deducting liabilities, expressed as:

Equity = Assets – Liabilities.

Changes in equity over time reflect investments, revenues, and expenses recorded within the double-entry framework.^[32]

See also

• Desi Namu, Indian accounting system
• Momentum accounting and triple-entry bookkeeping
• Merdiban, accounting system of the Ottoman Empire, Abbasid Caliphate and Ilkhanate
• Nostro and vostro accounts, typically held by one bank on behalf of another bank
• Single-entry bookkeeping