The Double Entry System "We need some balance in our lives"
When a business is formed two things must happen: Something of value comes into the business (asset) and a dollar value is placed under the source of the asset either liability or owners equity or both. Therefore, there is a balance between the resources a company has call Assets and from where these assets came; from institutions like banks called Liabilities or from the owners' personal pocket called Owners Equity. Mathematically, it is stated as:
Assets
= Liabilities + Owners Equity
(Fundamental Accounting Equation)
Once
the enterprise has assets, it will use them up in order to generate more
value. The assets are like blocks of ice; when they are used or melt,
they earn income. The "water" from these assets is called expenses. The
benefit the assets used creates for people is called Revenue. Hopefully,
the enterprise will make more in revenue that than it spends to provide
the benefit. Therefore we expand the equation:
Assets
= Liabilities + Owners Equity + Revenue - Expenses
(Expanded Form of the Accounting Equation)
Look
at the above equation as a scale. The equal sign is the fulcrum. You can
put weight on one side and put the same weight on the other and it is
in balance. That is a plus (+) and a plus (+). You can take off weight
from one side and the same weight from the other and be in balance. That
is a minus (-) and a minus (-). You can put weight on one side and take
the same but another weight from that same side and be in balance. That
is a plus (+) and a minus (-). Or, you can do the same to the other side
and you are in balance. So one can not say for every + there must be a
- nor for every + there must be a +. Accountants can say that for every
dollar ($) of Debits (abbreviated Dr.) there must be a dollar of Credits
(Cr.).
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Content - John Templeton, HCCS Accounting Instructor
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