Debit and Credit are the two critical aspects of Accounting. To fully understand the rules of Debit and credit one must understand different types of Accounts that exist in Accounting. In Accounting, there are three types of accounts namely Real Account, Personal Account and Nominal Account and the rules of debit and credit which are applied to these accounts are known as three Golden Rules of Accounting.
Three Golden Rules of Accounting are as follows-
The First rule is “Debit What comes in and Credit What goes out” which is applied to all the Real accounts.
The second golden rule is “Debit the receiver and credit the giver”, this rule is applied to Personal account.
The third rule is “Debit all expenses and losses and Credit all income and gains”, this rule is applied to all Nominal Account.
Before going deep into these rules, let’s take a closer look at the type of accounts first.
Real Account– A real account is a general ledger account that retains and rolls forward its ending balance from one period to the next period like accounts of balance sheet such as cash account, building account, etc.
Personal account– Personal account is an account which records all the transactions related to a person or in the name of a person, artificial persons and representative persons.
Nominal Account– Nominal Accounts are general ledger accounts that are closed at the end of each accounting year like Purchases account, Revenue Account, Interest Account, etc.
How the Golden Rules are Applied-
In all Real Accounts, the golden rule of “Debit What comes in and Credit What goes out” is applied which means that anything that is coming in the company should be debited and anything that is going out from the company should be credited.
Example of Real Account –XYZ Ltd. Bought Machinery of $1,000 for Cash
In this situation, the Machinery account will be debited as machinery is coming in the company and Cash Account will be credit as Cash is going out of the company.
In all Personal Accounts, the golden rule of “Debit the receiver and credit the giver” is applied which means that if a payment is made to somebody then the receiver will be debited and the one who has made the payment be credited.
Example of Personal Account– Mr. Tom Paid $10,000 to XYZ Ltd by Cash.
In this case, In the books of Mr. Tom, XYZ Ltd account will be debited as it is at the receiving end of this transaction. Further, Cash account will be credited. If Mr. Tom had made the payment through Cheque, in that case, Bank account would be credited.
In all Nominal Accounts like Purchases Account, Sales account, expenses account etc., the rule of “Debit all expenses and losses and Credit all income and gains” is applied.
Example of Nominal Account – XYZ Ltd. Purchased Goods for $10,000 By Cheque.
In this case, in the books of XYZ Ltd., Purchases account will be debited by $10,000 as buying of good is an expense for XYZ. Further, Bank account will be credit.
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