Is there an easy way to remember what goes to debit or credit in accounting?
Yes! The easiest way to remember debits and credits is ADE LER.
Some teachers will tell you to “just memorize it”.
In this video, we discuss how DC ADE LER works, with examples, so you actually understand
what is going on!
You will see that there is a big difference between
memorizing and understanding debits and credits.
The starting point is: where is the normal balance of an account?
DC ADE LER tells you: debits on the left, credits on the right.
ADE is on the debit side, on the left: Assets, Dividends, Expenses.
LER is on the credit side, on the right: Liabilities, Equity, Revenue.
Instead of dividends, some people use the broader term drawings.
Debits and credits are fundamental to accounting.
To understand DC ADE LER, you need to go step by step.
We start off with half the terms.
Focus first on understanding the accounting equation: assets equal liabilities plus equity.
This is sometimes also called the balance sheet equation.
Assets are things that a company owns. OWN.
How do assets increase? How do assets decrease?
The normal balance of an asset account is debit.
Asset accounts increase by recording more debits to it, and decrease by recording credits to it.
Here’s an example.
Inventory, the goods that you hold to sell, is an asset account.
It has a debit account balance of 100, this is the amount owned.
During the accounting period, the company receives additional inventory for 50.
Due to this transaction, inventory goes up, the debit balance increases.
During the accounting period, the company ships product to the customer for 30.
Due to this transaction, inventory goes down, the credit to the account pulls the balance down.
At the end of the accounting period, you take the opening balance of 100 debit, add receipts
of 50 debit, and deduct outgoing shipments of 30 credit,
to get to the new account balance of 120 debit.
Liabilities are things that a company owes. OWE.
How do liabilities increase? How do liabilities decrease?
The normal balance of a liabilities account is credit.
Liability accounts increase by recording more credits to it, and decrease by recording debits to it.
Here’s an example.
Accounts Payable, invoices received from suppliers that the company has not paid yet, is a liabilities account.
It has a credit balance of 200, this is the amount owed.
During the accounting period, the company receives new invoices for 50.
Due to this transaction, accounts payable goes up, the credit balance increases.
During the accounting period, the company makes payments to suppliers for 70.
Due to this transaction, accounts payable goes down, the debit to the account pulls
the balance down.
At the end of the accounting period, you take the opening balance of 200 credit, add the
new invoices of 50 credit, and deduct the payments to suppliers of 70 debit, to get
to the new account balance of 180 credit.
Let’s connect the two examples by looking at debits and credits by transaction.
One number was mentioned in both examples: 50.
The inventory that was received during the accounting period, was not paid for immediately.
The company received the inventory, as well as an invoice from the supplier.
The journal entry for this is: debit inventory for 50, credit accounts payable for 50.
Every transaction has debits and credits, and at least two accounts are affected.
For each transaction, the total of all debits equals the total of all credits.
Now for the second half of DC ADE LER.
The other three letters that we have not covered yet are all connected with the E of Equity.
Equity is also called shareholders’ capital.
In a way, this is the amount owed to shareholders.
The main driver of income in most companies is revenue.
The normal balance for revenue is a credit.
This is directly connected to the fact that if companies earn revenue, then the shareholders
benefit from this, and equity goes up.
However, in order to earn that revenue, companies incur expenses
(cost of goods sold, operating expenses, etcetera).
The normal balance for an expense is a debit.
This is directly connected to the fact that if companies incur expenses, then the shareholders
get “hurt” by this, and equity goes down.
In reality, it is the difference between revenue and expenses that shareholders look at.
If revenues are bigger than expenses, then the company makes a profit, and equity increases.
If revenues are smaller than expenses, then the company makes a loss, and equity decreases.
Profitable companies could consider paying a dividend to shareholders,
a distribution of the profit.
This would decrease equity.
As the normal balance for equity is a credit, a debit through dividends would reduce it.
Debits and credits. DC ADE LER.
Memorize it, and understand it!