Double entry accounting AKA Debit and Credit

This is one of the most basic and most confusing aspects of accounting. When professors present this it is almost always glossed over and tossed aside with no real depth. Really understanding double entry accounting and why debits have to match credits will be a key to success in studying accounting and here's why. Take an moderate/advanced question for example. 

If Ajax company has revenue of $50,000 and achieved a 25% gross profit in 20x2 what was the inventory purchases for the year ending 20x2?
20x1 Ending inventory is $23,000
20x2 Ending inventory is $30,000

Most accountants would look at this problem would be able to do it mentally -this post is not for you. Sit back, watch the most recent episode of The League or Grey's, or work through the 230 review notes your senior just left on FSA's that are due tomorrow.



Knowing what goes where and why helps in this problem. Accountants are able to do this problem mentally because, wether they know it or not, double entry (DE) accounting is in their head.

Think about DE like this. On your table you have two cups, one marked Cash one marked Accounts Receivable, and just to keep it simple put them both on the left side of the table. The A/R cup is half empty with water, Cash is Empty. Now along comes a customer. They bought something from you 7 months ago but haven't paid yet. This is where you get A/R (sales you have not received payment for). Finally after begging for four and a half months they are going to pay you. Now you have the cash, but where did it come from? This is what double entry accounting does. It creates a trail to know what came from where.

This cash didn't just magically appear, oh no no no, it came out of the A/R cup. But how? Well take the A/R cup and move it to the right side of the table, and pour some water into the Cash cup. You may not realize it but you just did double entry accounting. A/R decreased and Cash increased.

I will wrap up this problem in my next post. Don't get lost, it really is that simple.