@mhoran_psprep gives a good response, however, I would differ on the concept that
Revenue and Expenses are not part of the accounting equation[.] in that these two elements are (conceptually, anyway) 'sub-classes' to the Capital side of the equation. When reported on the Balance Sheet, R&E are netted to Capital as either Net Profit or Net Loss as of the Balance Sheet (BS) reporting date. It should be noted that (typically) the Balance reports an 'As Of' date (versus a specific period, such as a month, quarter or year), meaning that all balances being reported (including Revenues & Expenses) are from inception through the report date. The implication here is the Net Profit/Loss may not match the Profit and Loss (P&L) report because the latter is typically reported for a specific period, therefore if the P&L were also run from inception through the same report date of the BS, the net should then be the same as reported on the BS... but I digress.
IMHO the concepts of Debit and Credit vis-a-vis Increase and Decrease haunts many accounting beginners (no slight intended) -- I, for one, struggled with these concepts for years. Further complicating matters, was the idea that my bank debit card decreases my bank account??? In the beginning, I found the rote memorization really was the solution until...
I found the mnemonic and process that worked for me:
1. Assets: Debits = Deposits (or any increases to the asset account); C = Checks (or any decreases to the asset account).
2. Liabilities & Capital, Revenues & Expenses: Are the opposite of the effect upon the Assets.
3. Contra-Assets (eg depreciation accrual accounts, not included in the discussion, but worth mentioning) are also the opposite (contra) of Asset Accounts.
My process is to first determine the effect on an Asset Account, such as Cash or Bank, and proceed from there:
- Received money for sales of goods: Received = Deposit (increase) to Cash/Bank, therefore Debit, thus (as there must be an offset) Sales (or revenues - obviously is not an expense) receives the Credit (an increase of sales).
- Paid utility expense. Paid = Check (or decrease) from cash/bank and therefore Credit, thus the expense account receives the offsetting debit (an increase of the expense).
- Issued invoice for sale of widgets on account: Increased (Debit) Accounts Receivable (an Asset), Credit Sales (increase Sales).
- Received payment on invoice (#3): (two asset accounts!!) Received money = Deposit = Debit to bank (Increase), offset Credit Accounts Receivable (decrease amount owed)
- Received bill for inventory; bill is due in 30 days: This one is a bit more complicated because timing of receipt of goods may not coincide with the presenting or due date of the bill, however for the sake of discussion, inventory was received at the time the bill was presented: Inventory, an Asset, items 'deposited'/increased our inventory therefore Debit. Credit (increases) Accounts Payable for the Bill amount due net 30.
- Pay Bill (#5): Check (credit, decrease) from Asset account Cash/Bank, Debit (decreases) Accounts Payable amounts still owed by company.
Hold the phone... I just said Debits=Deposits and Checks= Credits, so why does the bank statement list checks as debits and Deposits as Credits???
Because the bank issues its statements from its own perspective NOT the account holder's perspective. This may get a little confusing because we list the bank in our company's Chart of Accounts -- which is true, but that is OUR Chart of Accounts. From the Banks Perspective, the money on deposit at the bank (the Bank's Asset) does not belong to the bank, it is a liability the bank owes to the account holder. As the account holder appears as a liability, when the account holder deposits money at the bank the bank records as a Debit to its vault (SIC) but must offset Credit (increase) the amount for the account holder. When a debit card transaction or check is processed, the bank takes (Credit/decreases) the money from it's vault (SIC) and sends it to the payee/receiver -- the Liability (the amount the bank now owes the Account Holder) is decreased (debited)