If your accounting has become an aimless mess, then Golden Rules of Accounting can resolve all the issues in your system of debit and credit.
Keeping a check on your finances is essential for every business.
Accounting is a record of all the transactions of a business. It is a process of collecting, recording, and classifying the daily transactions of a company. It facilitates a better interpretation of financial information.
The golden rules of accounting are for making it simple to decide what transaction must go in where, in each type of account. You can gauge the health of your business by going through your accounts. It gives you a summary of your profits, losses, etc.
Each record made in an account comes under one of the two categories, namely-
- Credit
- Debit
A debit is an increase in the value of assets. For example, if you purchase some land for your company, that would be termed as a debit. It increases the value of your assets, but there is a decrease in your capital amount.
A credit, on the other hand, is a decrease in the value of assets. Following the same example, if you sell the land you acquired, there is a decrease in the value of your assets, whereas there is an increase in the capital of your company.
So, if you are also in quest of what the golden rules of accounting are to manage your debit and credit system, this post is personalized to you. Let us get started right away-
What are the Golden Rules of Accounting?
Accounting rules simplify how to record your financial transactions.
There are three different types of accounts in the traditional approach to accounting.
1. Personal
A personal account is associated with companies, firms, and anything to do with people.
2. Real
The real account maintains your transactions regarding assets, possessions, or properties. There are two types of real accounts, tangible and intangible.
3. Nominal
A nominal account records your losses, gains, income, expenses, etc.
There is one rule that dictates how you record your transactions for each account- real, personal, or nominal.
Thus the three rules for the three different types of accounts make up the Golden Rules of Accounting.
The First Golden Rule of Accounting – Debit the Receiver, Credit the Giver
This rule is for personal accounts. When a person or an organization gives something to the company, it is recorded as a debit in the account.
In the same way, if the company gives out something to a person or another company or firm, it is recorded as a credit in the company’s account.
The Second Golden Rule of Accounting – Debit What Comes In, Credit What Goes Out
The second rule applies to real accounts. Any asset a company buys or that comes into the possession of the company like machinery, land, etc. is maintained as a debit in your account. And any asset the company gives out is marked as a credit to the company’s real account.
In simple terms, if you buy some assets for the company, it is recorded as debit as in the company’s real account and vice versa.
The Third Golden Rule of Accounting – Debit all Expenses and Losses, Credit all Incomes and Gains
Electricity bills, telephone expenses, profit on sales, etc. fall under this rule, in the category of the nominal account. This rule translates into this. If you have earned money through sales, interest received, etc., then it is posted as a credit in the account.
If you have spent money to pay off bills, etc. it is posted as a debit in the account.
Analysis of Modern Approach towards Golden Rules of Accounting
There is also the modern approach to accounting, which classifies accounts into six different heads:
1. Assets
An increase in assets is termed as a debit in the account, and a decrease in assets is termed as credit.
2. Liabilities
A decrease in liabilities translates as a debit in the account and vice versa.
3. Capital
Similarly, a decrease in the company’s capital is recorded as a debit, and an increase in the same is a credit.
4. Revenue
A decrease in the revenue is a debit in the account, and an increase is a credit.
5. Expenditure
An increase in expenditure results in debt and a decrease in expenditure is credit.
6. Withdrawal
An increase in withdrawal will be classified as a debit, and a decrease will be classified as a credit.
Benefits of Golden Rules of Accounting
Whether it is a small or large business, maintaining proper records of transactions and accounts is highly recommended. A few of the benefits of accounting are captured below:
1. It is a permanent record of transactions
An organization enters into numerous transactions every day, and it is impossible to remember all the transactions. Maintaining an account of all the daily transactions is the best way to keep permanent track of all this data.
2. Profit and Loss Analysis
Keeping proper accounts helps the business in taking stock of the profit and loss accrued during each quarter or any set period.
3. Financial Position
The financial position of a company at a given date can also be established if there is a proper record of the transactions. It might be essential to convince people to invest in your business or for applying for a loan.
4. Cost Control
It also helps evaluate where the company can curtail unnecessary expenditure to the company.
5. Management of Business
It also helps to plan and manage the company’s future income and expenditure.
6. Comparative Analysis
It makes it possible for the company to make a comparative analysis of how it has performed in comparison to the same period, the previous years.
Final Thoughts about the Golden Rules of Accounting!
With the help of the Golden Rules of Accounting, you will be able to understand transaction adeptly by comprehending the actual and practical meaning of which account should be debited or credited.
So, go through these accounting rules and use them as the guidelines while recording and managing transactions in your books of accounts.
How important do you consider the golden rules of accounting in managing the debit and credit system?
