Concept & Meaning of Double Entry Book-Keeping System
Double-entry bookkeeping, in accounting, is a system of book keeping where every entry to an account requires a corresponding and opposite entry to a different account. The double-entry has two equal and corresponding sides known as debit and credit. The left-hand side is debit and right-hand side is credit.
In a normally debited account, such as an asset account or an expense account, a debit increases the total quantity of money or financial value, and a credit decreases the amount or value. On the other hand, for an account that is normally credited, such as a liability account or a revenue account, it is credits that increase the account’s value and debits that decrease it. In double-entry bookkeeping, a transaction always affects at least two accounts, always includes at least one debit and one credit, and always has total debits and total credits that are equal. This is to keep the accounting equation (below) in balance. For example, if your business takes out a bank loan for $10,000, recording the transaction would require a debit of $10,000 to an asset account called “Cash”, as well as a credit of $10,000 to a liability account called “Notes Payable”.
Assets = Liabilities + Equity
The accounting equation is an error detection tool; if at any point the sum of debits for all accounts does not equal the corresponding sum of credits for all accounts, an error has occurred. However, satisfying the equation does not guarantee that there are no errors; the ledger may still “balance” even if the wrong ledger accounts have been debited or credited.
Double Entry System Concept
- If each and every financial activity is recorded by using the rule of debit and credit then such modern, systematic, scientific and fundamental concept of accounting is called double entry system.
- It has a two-fold effect on the accounting process.
- The double entry system is a modern system of bookkeeping based on duality principle propounded by Luca De Pacioli on 1494 A.D. from his book “Summa de Arithmetica” on “Accounting of Venice” chapter.
- The double entry system is a fundamental and scientific system. (fundamental + scientific)
- Double entry system prevents accounting frauds errors.
Double Entry System Equation
Assets = Equity +Liabilities
Features of Double Entry System
- It has a double effect of every financial transaction
- Equal effect on both sides
- A complete, scientific and reliable method of accounting
- Helpful to prevent frauds and errors
- Flexible for the correction in the process
- Useful for internal control system
- Concept of debit the receiver, credit the giver.
- It keeps the full recording of economic transactions
- Helpful to make final accounts
- Easy to analyze and help to make comparable financial statements
- Complex to understand, time-consuming, expensive and not suitable for small organizations
- A universally accepted rule of accounting
Principles of Double Entry System
- Principle of debit and credit
- Principle of two-fold effects
- Principle of equality
- Principle of preliminary entry
- Principle of accounting posting
Objectives of Double Entry System of Book-Keeping
The following are the main objectives of double entry system of book-keeping:
- To keep complete record of every financial transactions systematically and scientifically.
- To ascertain profit or loss of business organization.
- To provide the real picture about the financial position of organization.
- To provide appropriate data for comparison
- To facilitate the rational decision making by providing appropriate financial data at appropriate time.
- To provide the financial information of the business.
- To check the arithmetically accuracy of recording financial transaction.
Importance or Advantages of Double Entry System of Book-Keeping
The following are the main importance or advantages of double entry system of book-keeping:
- Keeps complete records of each transaction: it is complete system of book-keeping. It records not only each and every transaction but also each aspect of the financial transaction.
- Ascertain the result of business operation: This system helps to ascertain the true profit or loss of a business by preparing profit and loss account for the given period.
- Present financial position: This system help to prepare balance sheet by providing details of assets and liabilities of the business, which helps to present the financial position of business.
- Check arithmetical accuracy: It helps to check the arithmetical accuracy of recorded financial transaction by preparing a summary report called trial balance
- Facilitate comparison: Under this system, separate recording is made for each year’s transaction. It facilitates comparison of one item of one year with the similar item of previous year and help to know its progress from year to year.
- Reduce errors and other irregularities: In this system, a transaction is recorded in two accounts. Therefore, it reduces the possibility of frauds, errors and manipulation of account.
- Decision making: This system provides necessary information of business operation to the various users such as managers and creditors for their decision making purpose.
- Scientific system: This system is scientific system of book-keeping. It has its own set of principles and rules. Under those principles and rules, two aspects of every financial transaction are recorded.
- Systematic system: A systematic technique is followed in recording financial transaction in double entry system of book keeping. It record financial transaction in systematic and chronological order with suitable narration of financial transaction.
- Reliability: Under this system, transactions are recorded in a scientific and systematic manner. Therefore, it provides an authentic record of all he transactions of business, which is accepted by the court, tax authority etc. as an authentic documents.
What is the Accounting Cycle?
The accounting cycle is the holistic process of recording and processing all financial transactions of a company, from when the transaction occurs, to its representation on the financial statements, to closing the accounts. One of the main duties of a bookkeeper is to keep track of the full accounting cycle from start to finish. The cycle repeats itself every fiscal year as long as a company remains in business.
The accounting cycle incorporates all the accounts, journal entries, T accounts, debits, and credits, adjusting entries over a full cycle.
Steps in the accounting cycle
Transactions: Financial transactions start the process. If there were no financial transactions, there would be nothing to keep track of. Transactions may include a debt payoff, any purchases or acquisition of assets, sales revenue, or any expenses incurred.
#2 Journal Entries
Journal Entries: With the transactions set in place, the next step is to record these entries in the company’s journal in chronological order. In debiting one or more accounts and crediting one or more accounts, the debits and credits must always balance.
#3 Posting to the General Ledger (GL)
Posting to the GL: The journal entries are then posted to the general ledger where a summary of all transactions to individual accounts can be seen.
#4 Trial Balance
Trial Balance: At the end of the accounting period (which may be quarterly, monthly, or yearly, depending on the company), a total balance is calculated for the accounts.
Worksheet: When the debits and credits on the trial balance don’t match, the bookkeeper must look for errors and make corrective adjustments that are tracked on a worksheet.
#6 Adjusting Entries
Adjusting Entries: At the end of the company’s accounting period, adjusting entries must be posted to accounts for accruals and deferrals.
#7 Financial Statements
Financial Statements: The balance sheet, income statement, and cash flow statement can be prepared using the correct balances.
Closing: The revenue and expense accounts are closed and zeroed out for the next accounting cycle. This is because revenue and expense accounts are income statement accounts, which show performance for a specific period. Balance sheet accounts are not closed because they show the company’s financial position at a certain point in time.