The T Account

Since each business event can be viewed in two parts, the double-entry system uses T accounts to record both parts. As shown below, a T account consists of two sides, the left side of which is called the debit side and the right side is called the credit side.

 Account Name Debit Credit (Left side) (Right side)

Using T Accounts

To see how the double-entry system uses T accounts, debits, and credits to maintain the balance of the accounting equation, consider the following September, events of the Guitars Lessons Corporation.

Receiving cash from customers: on September 2 the client serviced in August pays the company the \$600 she owes.

How does this event affect the company's resources and sources of resources?

The September 2 collection of cash from a customer serviced in August results in both an increase in the company's resources (cash) and a decrease in its resources (accounts receivable). Sources of resources are not affected by this event because additional resources were not borrowed, obtained from owners, or generated by management. The September beginning balances of assets (\$8,700), liabilities (\$450), and stockholders' equity (\$8,250) were the balances at the end of August, as presented in Chapter 1. The effects of the September 2 cash collection are shown as follows.

 Total Resources = Sources of Borrowed Resources + Sources of Owner Invested Resources + Sources of Management Generated Resources Assets = Liabilities + Stockholders' Equity \$9,250 = \$450 + \$7,000 + \$1,800 + \$600 cash - \$600 accounts receivable \$9,250 = \$450 + \$7,000 + \$1,800

How does the September 2 collection of cash from a customer serviced in August affect the company's T accounts?

To show the effects of this event in T accounts, the company would first enter the \$600 increase in cash as a debit (left side of the cash T account). Thus, we have our first debit and credit rule: assets increase with debits. Since there are only two sides in a T account and we chose the left side to record increases in assets, how would we record the decrease in the asset accounts receivable? The logical answer is by using the credit side. Thus, we have our second debit and credit rule: assets decrease with credits. Both of these effects are shown in the Guitar Lessons Corporation's T accounts below. Once again, the September beginning balances in the accounts were the balances at the end of August.

 Cash Accounts  Receivable Supplies 9/1 \$8,250 9/1 \$600 9/2 \$600 9/1 \$400 9/2 \$600 \$8,850 \$0 \$400

 Accounts Payable Common Stock Retained Earnings 9/1 \$450 9/1 \$7,000 9/1 \$1,800 \$450 \$7,000 \$1,800

After the September 2 transaction, the Guitar Lessons Corporation's assets are \$9,250 (\$8,850 cash + \$400 supplies), liabilities are \$450 (accounts payable), and stockholders' equity is \$8,800 (\$7,000 common stock + \$1,800 retained earnings). Thus, the company's assets (\$9,250) equal its total liabilities and stockholders' equity (\$9,250). In other words, the company's accounting equation balances. Importantly, the accounting equation balances because the company recorded equal amounts of debits (\$600) and credits (\$600). As you proceed through the following illustration, you will see that as long as each event is recorded in equal total debits and total credits dollar amounts the accounting equation will always balance.

So far, the following debit and credit rules have been developed.

Assets increase with debits
Assets decrease with credits

Borrowing resources: on September 6 the company buys \$550 of supplies, agreeing to pay for the supplies later in September or October.

How does this event affect the company's resources and sources of resources?

The September 6 purchase of supplies results in an increase in the company's resources (supplies) and an equal increase in the company's sources of resources (accounts payable). Since the company owes \$550 for the supplies, the source of resources that increases is liabilities, as shown below.

 Total Resources = Sources of Borrowed Resources + Sources of Owner Invested Resources + Sources of Management Generated Resources Assets = Liabilities + Stockholders' Equity \$9,250 = \$450 + \$7,000 + \$1,800 + \$550 supplies = + \$550 accounts payable \$9,800 = \$1,000 + \$7,000 + \$1,800

How does the September 6 purchase of supplies affect the company's T accounts?

To show the effects of this event in T accounts, remember the first debit and credit rule developed in the September 2 transaction presented earlier: assets increase with debits. Since supplies are assets and assets increase with debits, the \$550 would be entered as a debit in the supplies T account. Since total debits must equal total credits, and we just entered a \$550 debit to supplies, the other effect on the company's T accounts would be a \$550 credit to accounts payable. Thus, we have developed another debit and credit rule: liabilities increase with credits. These debits and credits would appear as follows.

 Cash Accounts Receivable Supplies 9/1 \$8,250 9/1 \$600 9/2 \$600 9/1 \$400 9/2 \$600 9/6 \$550 \$8,850 \$0 \$950

 Accounts Payable Common Stock Retained Earnings 9/1 \$450 9/1 \$7,000 9/1 \$1,800 9/6 \$550 \$1,000 \$7,000 \$1,800

After the September 6 transaction, the Guitar Lessons Corporation's assets are \$9,800 (\$8,850 cash + \$950 supplies), liabilities are \$1,000 (accounts payable), and stockholders' equity is \$8,800 (\$7,000 common stock + \$1,800 retained earnings). Thus, the company's assets (\$9,800) equal its total liabilities and stockholders' equity (\$9,800). Once again, the company's accounting equation balances. The accounting equation balances because the company recorded equal amounts of debits (\$550) and credits (\$550).

So far, the following debit and credit rules have been developed.

Assets increase with debits
Assets decrease with credits
Liabilities increase with credits

Generating resources through management operations: on September 12 the manager coaches one client and receives \$800 cash.

How does this event affect the company's resources and sources of resources?

The company's receipt of \$800 cash increases its resources (cash). Since the cash came from management's efforts of providing services to a customer, the source of resources that increases by \$800 is stockholders' equity. The specific account in which the source of resources generated by management is summarized is retained earnings. Retained earnings is included in stockholders' equity because the owners of corporations, call stockholders, have a right to the resources generated by management. This right to management-generated resources is one of the most important rights corporation owners have.

 Total Resources = Sources of Borrowed Resources + Sources of Owner Invested Resources + Sources of Management Generated Resources Assets = Liabilities + Stockholders' Equity \$9,800 = \$1,000 + \$7,000 + \$1,800 + \$800 cash = + \$800 retained earnings \$10,600 = \$1,000 + \$7,000 + \$2,600

How does the September 12 collection of cash from a customer serviced on September 12 affect the company's T accounts?

To show the effects of this event in T accounts, remember one rule developed earlier: assets increase with debits. Since the asset cash increased by \$800 and assets increase with debits, the \$800 increase in cash would be entered as a debit in the cash T account. Since total debits must equal total credits and we just entered an \$800 debit to cash, the other effect on the company, the increase in its retained earnings, would be entered in its T accounts as an \$800 credit to retained earnings. Thus, we have developed another debit and credit rule: stockholders' equity increases with credits. These debits and credits would appear as follows.

 Cash Accounts Receivable Supplies 9/1 \$8,250 9/1 \$600 9/2 \$600 9/1 \$400 9/2 \$600 9/6 \$550 9/12 \$800 \$9,650 \$0 \$950

 Accounts Payable Common Stock Retained Earnings 9/1 \$450 9/1 \$7,000 9/1 \$1,800 9/6 \$550 9/12 \$800 \$1,000 \$7,000 \$2,600

After the September 12 transaction, the Guitar Lessons Corporation's assets are \$10,600 (\$9,650 cash + \$950 supplies), liabilities are \$1,000 (accounts payable), and stockholders' equity is \$9,600 (\$7,000 common stock + \$2,600 retained earnings). Thus, the company's assets (\$10,600) equal its total liabilities and stockholders' equity (\$10,600). Once again, the company's accounting equation balances. The accounting equation balances because the company recorded equal amounts of debits (\$800) and credits (\$800).

In business, when resources are generated through management's providing services to customers, the increase in retained earnings is called a revenue. In the case of the Guitar Lessons Corporation, the \$800 increase in retained earnings would be called Fees Revenue. As revenues increase, resources increase (either cash or accounts receivable) and retained earnings increases. Since retained earnings is part of stockholders' equity and stockholders' equity increases with credits, revenues must also increase with credits. Remember, revenues increase retained earnings. Thus, we have developed another debit and credit rule: revenues increase with credits.

So far, the following debit and credit rules have been developed.

Assets increase with debits
Assets decrease with credits
Liabilities increase with credits
Stockholders' equity increases with credits
Revenues increase with credits

Practice Exercise

On June 2, the Christopher Corporation purchased supplies by paying \$300 cash. Determine the effect the purchase had on the Christopher Corporation's supplies account. State whether the effect would appear in the supplies account as a debit or credit.

A purchase of supplies will increase the supplies account. Supplies are assets (resources). Since asset accounts increase through debits, the purchase of supplies will appear as a \$300 debit to the supplies account.

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