First I want you to know that QuickBooks does double entry accounting for you.
You could skip this movie and still use QuickBooks without a problem.
The reason I have included this movie is because if you're going to do your own
bookkeeping, there are two accounting methods that I feel everyone should have at
least a general understanding of: double entry accounting
and accrual-based accounting. We are going to cover accrual-based accounting
in our next movie. Most of you are probably familiar with single
entry accounting. In single entry accounting you deposit money
and the bank increases or debits your account. When you take the money out the bank decreases
or credits your account. In double entry accounting there are two entries
made to the transaction instead of one. Unlike single entry counting, double entry
accounting shows us not only where the money is going but also where it came from.
Double entry accounting provides a system of checks and balances by summing all of the
debits and summing all of the credits and comparing
the totals. If the two totals do not equal, you are out of balance which means
you've made a mistake. This ties back to the balance sheet
and what keeps it in balance. As you can see in the example, we've increased
our cash account by debiting it. And we've also increased our revenue account
by crediting it. I'm sure you're wondering how do you know
when to debit and credit something and how you know whether that increases or
decreases it. Debits and credits increase or decrease account
balances based on the type of account. Asset and expense accounts, you debit to increase
them and you credit to decrease them.
Liability, equity, and income accounts, you credit to increase
and debit to decrease. Now I know this may not make a lot of sense
yet, but I'm going to show you a chart that I put
together that may help. This is called T accounts. Someone showed this to me when
I was just starting out in accounting and I found them to be incredibly helpful. The
T forms two columns, debits on the left and credits on the right.
Each account formed it's own T and as you can see it gives you a quick reference on
how to increase or decrease an account. In a previous movie we discussed asset, liability,
and equity are associated with your balance sheet.
And revenue and expense are associated with your income statement.
As you can see that's broken out here in this slide. So this gives you a quick, easy reference
and I'm going to provide this slide in an exercise file so at any time you can print
it out and put it up on your wall and use it as a
reference point for when you're doing your own accounting work in QuickBooks.
Now at this point, I'm sure it's all as clear as mud to you.
Remember, QuickBooks performs the double entry accounting so you will not need to memorize
this information. However you want to try and understand the
concept behind double entry accounting. The whole idea is to provide a way to
ensure you that entered your financial information correctly. If your debits don't equal your
credits, then your balance sheet will not balance.
Let's look at an example of a transaction you would post in QuickBooks that may help
you see how this would work. We're going to sell an item for $100 and invoice
the client. The client is going to pay us later for the
sale. This is called accrual-based accounting and
we're going to discuss it in the next movie in detail. But just so you understand, the
idea behind accrual-based accounting is you sell
the item today and the client pays you later. You're going to book the revenue and earn
it today because the client has received their product, but they're going to pay you at a
later date.
When we sell an item we're going to post that money to our revenue
account. Now remember in the previous slide, revenue
accounts are income accounts and we need to increase our revenue account
by the $100 of the sale. What do we want to do when we want to increase
an income account? We credit it.
OK now, in double entry accounting you have to affect two accounts for the one transaction.
So we've sold something, we've posted the sale in our revenue account,
and now we have to create the second entry. Because the client is going to pay us later,
we're going to post that money in what is called accounts receivable.
Accounts receivable is money that the client owes you. They're going to pay you at a later
date and so you're going to keep track of that debt or that money that's owed to you
through accounts receivable. Now, accounts receivable is an asset account.
And we want to increase the asset account by $100.
How do we increase an asset account? Well, if we look at the chart we put together
of our T accounts we can see that asset accounts are increased by debiting them.
So we're going to debit our accounts receivable by $100. So now let's look at our transaction
for a minute. We've sold something and we've invoiced it.
What's happening behind the scenes is QuickBooks is our revenue was increased by
$100 so we credited it, and accounts receivable was also increased
by $100 and we debited it. OK now, that's how it's going to sit until
the client pays us. So, the client now has paid us and we've received the payment and
we have to record that money in QuickBooks. So if we're going to record it in QuickBooks
what's the first account we have to affect? Well, that would be our cash account. We want
to record the money. Cash is an asset.
We want to increase cash by $100. That's the payment. How do we increase our asset account?
We look at accounts receivable, which is also an asset.
We debit it. So we're going to debit cash $100 the money
that we were paid. Remember accounts receivable is used for the
money people owe you. These people have now paid us. That means
we have to reduce accounts receivable by the $100. We have to lower
the amount owed since it is no longer due. So, how do we lower an asset account?
Well, if we debit it to increase it then the opposite would hold true to decrease it. We're
going to credit it. So you can see the corresponding entry here.
We originally had the time of the sale increased revenue,
and we increased the money owed to us through accounts receivable.
When it was paid to us we increased our cash and then we lowered accounts receivable, because
the money was no longer owed to us.
This may be a confusing concept to you, but I want you to remember this movie as we begin
working with QuickBooks. When we get to chapter 9 and look at invoicing
customers and Chapter 10, client payments,
I want you reference back to this movie as it will make a lot more sense to you once
you see it in action. Remember, QuickBooks will take care of the
double entry accounting that goes on behind the scenes for you. The two most
important concepts to remember from this movie are: two entries for every transaction