Debits and Credits Demystified

One of the most confusing aspects of accounting is the language accountants use; especially, the terms Debit and Credit.

And for the layperson, attempting to find common language meaning in those terms, has always compounded that confusion. 

To understand debits and credits, you first need to ignore any previous connotations you might have associated with the use of those terms. Within this (accounting) context, credit does not mean good (or more of a good thing), and debit does not mean bad.  

Debits and credits are simply accounting terms given to the recording of financial transactions following the double-entry accounting system.

The double-entry accounting system is in turn based on the accounting equation, which is 

Assets = Liabilities + Owners Equity

Debit is the term used for increases to the left side of the equation, while credit is the term used for increases to the right side of the equation. And conversely, decreases in the left side are credits, while decreases in the right side are debits.

For example, when there is an increase in cash (an asset), then cash is debited. When there is a decrease in cash, cash is credited. It is that simple. Do not try to find common language meaning in those terms, that will just confuse you.

The accounting equation above has covered Assets, Liabilities, and Owners Equity, but what about Revenue and Expenses?

If we expand the Owners Equity in the accounting equation into its component parts, we get the following

 Owners Equity = Paid In Capital + Retained Earnings +  Net Profit (Revenue – Expenses)

Therefore, the expanded accounting equation after some rearrangement will look as follows

Assets + Expenses = Liabilities + Paid in capital + Retained earnings + Revenue

Then, increases in expenses are debits, and increases in revenues are credits.