A journal entry is the primary record of all financial transactions of a business in chronological order. Before computer accounting software programs, the process of recording transactions was manual and recorded in a paper journal and is where the term journal entry comes from.
Journal entries are used to record daily financial transactions to analyze how financial transactions impact a business
The journal entries are aggregated to the general ledger which is then used to construct financial statements.
A journal entry should typically include:
· Unique identifying number of the entry
· Date of the transaction
· Amount(s) to be debited and credited
· Account(s) where the debits and credits are recorded
· Name of the person making the entry
· Whether the entry on one-time or recurring
· A description of the transaction may be beneficial to include and provide information regarding the entry
Now that we have the basics, let’s go step-by-step through the accounting cycle of double entry journal entries.
· In a double entry accounting system (used by most businesses) every business transaction is recorded in at least two accounts. (Learn more about double entry accounting in our bookkeeping section)
· One account from your small business chart of accounts will be debited which simply means the amount will be recorded on the left side and one account will be credited…amount recorded on right side.
· Debits and credits must balance equal.
· See more about debits and credits in our basic accounting concepts section.
Note: Today most accounting is done on computers and the journalizing (recording accounting journal entries) is done in the background; however, it is still important to know the basics of double entry accounting.
· In manual accounting each financial transaction is first recorded in a book called a journal.
· In that accounting journal entry, the title of the account to be debited is listed first, followed by the amount to be debited. The title of the account to be credited is listed below and to the right of the debit, followed by the amount to be credited.
· To determine which account is debited and which is credited you have to first determine what kind of account is being affected and if it was increased or decreased.
· To determine which account is debited and which is credited memorize this basic accounting equation (the foundation of all basic accounting concepts):
Assets = Liabilities + Owner’s Equity
· Assets are on the left side or debit side and asset accounts such as Cash have their normal balances on the left side.
· Liabilities and Owner’s equity are on the right side or credit side and their accounts in the general accounting ledger have their normal balance on the right side.
Okay…here’s where it gets a little complicated…but keeping the above equation in mind makes it a lot easier to understand:)
· To record a business transaction in an accounting journal entry, we need to look closely at the transaction and see which accounts it involves and if it increased or decreased those accounts.
· If it involved an asset account such as Cash, you would picture that basic accounting equation above and know that its normal balance is on the left side (debit side), so if we received (increase) cash we would record the amount on the left side.
· However, if it decreased our asset account such as paying our small business bills, we would record it on second line and on the right side to show a decrease in that account.
· If the business transaction increased our liabilities or owner’s equity we would record it on the right side ( credit side) because those balance sheet accounts have a normal credit (right) balance. (Remember that equation?)
· If the transaction decreased our liabilities or owner’s equity we would record it on the left side ( debit side).
· To sum it up—remembering the basic accounting equation: increase a balance sheet account by recording the amount on the same side as its on in the equation; decrease it by recording amount on the opposite side.
· For income statement accounts such as revenue (income) and expenses, you just need to remember revenue accounts have a normal right credit balance. (Easy for me to remember—Revenue increases owner’s equity and has the same normal “credit” balance)
· So following the rules above—when you increase your revenue account, you would record the amount on its normal credit (right) side and to decrease it you would record the amount on the debit (left )side.
· Expenses have a normal debit (left) balance. To increase your expense account, you would record the amount on its normal debit (left) side and to decrease it you would record the amount on its opposite (credit) side. Tip: Expenses are almost always debited!
The best way to learn something is to do it…so let’s study some examples of general journal entries using double-entry bookkeeping: Bob open their brand-new store selling thingamajigs. Here are some examples of their basic accounting journal entries for the first accounting period:
Transaction #1 – Jane a Bob invest $15,000 into their new business; rent a building, and start selling their merchandise. How should the general journal entry be made?
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Date |
Account Names & Explanation |
Debit |
Credit |
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3/1 |
Cash |
15000 |
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Capital |
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15000 |
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Jane and Bob deposit $15,000 in their new business bank account. |
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Debit: increase in asset (cash) |
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Credit: increase in owner’s equity |
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Transaction #2 – On March 5th, the company paid their first month’s rent of $1,700. The expense is recorded by debiting it and deceasing cash by crediting it. |
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3/5 |
Rent Expense |
1700 |
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Cash |
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1700 |
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Paid first month’s rent of $1700. |
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Debit: increase in expenses (rent) |
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Credit: decrease in asset (cash) |
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Transaction #3 – On March 10th, the company purchased direct material for inventory that was worth $4,000 on credit. This will result in an increase in an asset account which is a debit and a credit to Accounts Payable in the amount of $4,000. |
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3/10 |
Thingamajig Material – Inventory |
4000 |
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Accounts Payable |
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4000 |
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To make their thingamajigs Jane purchased $4000 in thingamajig materials on credit for cost of goods. |
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Debit: increase in assets (inventory) |
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Credit: increase in liabilities (AP) |
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Transaction #4 – On March 15, the company made sales of $2,200 and received $1,200 in cash and the remaining $1,000 as Accounts Receivable. This results in a compound journal entry. We will record an increase in cash and Accounts Receivable and debit those accounts. In addition, the Revenue account is credited by $2,200 even though full payment hasn’t been received. |
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3/15 |
Cash |
1200 |
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Account Receivable |
1000 |
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Revenue |
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2200 |
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Sales of $2200. Cash sales of $1200 and sold $1000 on customer credit. (Compound entry: Some transactions will affect more than one account) |
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Debit: increase in assets (cash) |
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Debit: increase in assets (AR) |
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Credit: increase in Revenue |
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Transaction #5 – Also on March 15, an expense was made to purchase materials that will be used to create inventory for $600. As such there will be a debit in expenses and credit in inventory. |
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3/15 |
Thingamajig Material Expense |
600 |
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Thingamajig Material – Inventory |
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600 |
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$600 in Thingamajig material was used to make more Thingamajigs. |
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Debit: increase in expenses (Thingamajig Material) |
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Credit: decrease in asset (inventory) |
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Transaction #6 – For this accounting entry, on March 28, the company paid some of its liability from Transaction #3 by issuing a check. To record this transaction, we will debit Accounts Payable for $1,800 to decrease it, then we will credit cash to decrease it as a result of the payment. |
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3/28 |
Accounts Payable |
1800 |
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Cash |
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1800 |
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Paid $1800 on credit account. |
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Debit: decrease in liabilities (AP) |
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Credit: decrease in assets (cash) |
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Transaction #7 – On March 30 the company collected a portion of the amount due from the customer in Transaction #4. This transaction is recorded as an increase in cash by debiting it by $500. Then, we credit Accounts Receivable to decrease it, which will reduce the receivable since some of the money has been collected. |
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3/30 |
Cash |
500 |
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Accounts Receivable |
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500 |
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Collected $500 in cash from credit customers. |
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Debit: increase in assets (cash) |
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Credit: decrease in asset (AR) |
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Notice how each transaction is balanced. Everything entered on the left hand (debit) side equals the (credit side) right hand side. That’s what double entry bookkeeping is all about—transactions must balance. It’s kind of like what you learned in basic algebra classes–if you can remember back that far – what you did to one side of the equation you had to do to the other side.
A couple of more tips on journal entry accounting:
· The above accounting journal entries did not include account numbers. Usually in real life, you would use the account numbers from your chart of accounts to identify each account.
· You do not use dollar signs in recording the amounts. If the journal is prepared in the United States, the amounts are understood to be in the US Dollar.