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5 Debit and Credit Practice Questions & Solutions
Accounting Stuff
Overview
This video provides a practical guide to understanding debits and credits in accounting through five progressively challenging practice questions. It introduces the DEALER acronym (Dividends, Expenses, Assets = Liabilities, Equity, Revenue) as a mnemonic for remembering normal account balances and how they increase or decrease. The video walks through each question, explaining the reasoning behind debiting or crediting specific accounts based on the transaction's impact on assets, liabilities, equity, and revenue, emphasizing the accrual basis of accounting and the revenue recognition principle.
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Chapters
- The video aims to teach debits and credits through five practice questions.
- The DEALER acronym (Dividends, Expenses, Assets = Liabilities, Owner's Equity, Revenue) helps remember account types and their normal balances.
- Accounts on the left side of DEALER (Dividends, Expenses, Assets) normally increase with a debit.
- Accounts on the right side of DEALER (Liabilities, Owner's Equity, Revenue) normally increase with a credit.
- All examples assume the accrual basis of accounting, where revenue is recognized when earned, not when cash is received.
Understanding the DEALER acronym and the accrual basis provides a foundational framework for correctly applying debits and credits to various business transactions.
The DEALER acronym is presented as a cheat sheet to remember that Assets increase with Debits, while Liabilities and Equity increase with Credits.
- An initial investment increases the company's cash.
- Cash is an asset, and assets increase with debits.
- Therefore, the entry to the company's cash account is a debit.
This question illustrates how to classify an asset account and apply the debit rule for increases, a fundamental concept in double-entry bookkeeping.
When the owner invests $1,000, the company's cash (an asset) increases, so the cash account is debited.
- The owner's investment also increases Owner's Equity.
- Owner's Equity is a normal credit account, meaning it increases with credits.
- Alternatively, because every transaction has equal and opposite sides, if cash was debited, Owner's Equity must be credited to balance the entry.
This demonstrates the dual effect of transactions in double-entry accounting and reinforces the credit rule for Owner's Equity.
Since the $1,000 investment increased Owner's Equity, the Owner's Equity account is credited.
- Paying a supplier decreases both Cash (an asset) and Accounts Payable (a liability).
- Accounts Payable is a liability, which normally increases with a credit.
- To decrease a liability, you must debit it.
- Therefore, Accounts Payable is debited.
This question highlights how to handle a decrease in a liability account, showing that debits are used to reduce liabilities.
When the car wash pays $200 to a supplier, the liability 'Accounts Payable' decreases, requiring a debit to that account.
- A customer receives a service and agrees to pay later (on account).
- This transaction involves revenue, not cash, because the service is earned.
- Revenue is a normal credit account and increases with credits.
- An asset, Accounts Receivable, is created because the customer owes money.
- Revenue is credited to recognize the income earned.
This illustrates the revenue recognition principle, emphasizing that revenue is recorded when earned, not when payment is received, and introduces the concept of Accounts Receivable.
For a $10 car wash paid on account, Revenue is credited because the service is earned, and Accounts Receivable is debited because the customer owes the money.
- The car wash receives the $10 payment from the customer from the previous transaction.
- This transaction does not affect revenue, as revenue was already recognized.
- Cash (an asset) increases, requiring a debit.
- Accounts Receivable (an asset) decreases because the customer no longer owes money.
- Assets decrease with credits, so Accounts Receivable is credited.
This question shows how to record the receipt of cash for a previously earned revenue, demonstrating the decrease in an asset account (Accounts Receivable) and the increase in another (Cash).
When the customer pays the $10 owed, Cash is debited (asset increase), and Accounts Receivable is credited (asset decrease).
Key takeaways
- The DEALER acronym is a powerful mnemonic for remembering the normal balance and behavior of the six main account types in accounting.
- Assets, Expenses, and Dividends increase with debits and decrease with credits.
- Liabilities, Owner's Equity, and Revenue increase with credits and decrease with debits.
- Double-entry bookkeeping requires every transaction to have equal and opposite debit and credit entries.
- The accrual basis of accounting means revenue is recognized when earned, regardless of when cash is received.
- Accounts Receivable represents money owed to the business by customers and is an asset account.
- Paying off a liability reduces the liability balance, which is accomplished by debiting the liability account.
Key terms
DebitCreditAssetLiabilityOwner's EquityRevenueExpenseDividendDEALER AcronymAccrual Basis of AccountingRevenue Recognition PrincipleAccounts PayableAccounts ReceivableDouble-Entry Bookkeeping
Test your understanding
- How does the DEALER acronym help in determining whether to debit or credit an account?
- What is the primary difference between the accrual basis and cash basis of accounting, and why is it important for recognizing revenue?
- Explain why an increase in cash is recorded as a debit, using the DEALER framework.
- How would you record a decrease in Accounts Payable, and why?
- What is the accounting entry when a customer pays for a service that was previously provided and recorded as revenue on account?