What Is Double-Entry Accounting?
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Double-entry accounting is a system that requires two book entries — one debit and one credit — for every transaction within a business. Your books are balanced when the sum of each debit and its corresponding credit equals zero. Contrary to single-entry accounting, which tracks only revenue and expenses, double-entry accounting tracks assets, liabilities and equity, too.
The system might sound like double the work, but it paints a more complete picture of how money is moving through your business. And nowadays, accounting software manages a large portion of the process behind the scenes.
Single-entry vs. double-entry accounting
Single-entry | Double-entry | |
|---|---|---|
Tracking | Tracks revenue and expenses only. | Tracks assets, liabilities, equity, revenue and expenses. |
Entries | One entry per transaction. | Two entries per transaction. |
Accounting errors | Prone to mistakes. | Reduces accounting errors. |
Process | Can be handwritten or maintained in a spreadsheet. | Should be used with accounting software. |
Insight | Can’t produce much insight beyond a profit and loss statement. | Can provide valuable insight into a company’s financial health. |
Best for | Sole proprietors, freelancers and service-based businesses with very little assets, inventory or liabilities. | All small businesses with significant assets, liabilities or inventory. |
Single-entry accounting example
Single-entry accounting is like keeping a cash book. Entries generally include a date, description, amount and remaining balance. Let’s say you paid rent and received a loan from the bank in October 2021. You started out the month with $50,000 in your business bank account. Here’s how the entries might look:
Date | Description | Revenue | Expenses | Balance |
|---|---|---|---|---|
10/1/21 | Starting balance | $50,000 | ||
10/2/21 | Received bank loan | $20,000 | $70,000 | |
10/15/21 | Paid rent | $3,000 | $67,000 |
It looks like your business is $17,000 ahead of where it started, but that doesn’t tell the whole story. You also have $20,000 in liabilities, which you’ll have to pay back to the bank with interest. Glancing back at these entries, you’d also have no idea which account the $3,000 for rent was withdrawn from. This is why single-entry accounting isn’t sufficient for most businesses.
Double-entry accounting example
You’re in the same situation as above, but using a double-entry system instead of single-entry. Here’s what it might look like:
Date | Description | Account | Debit | Credit |
|---|---|---|---|---|
10/2/21 | Received bank loan | Cash | $20,000 | |
Liabilities | $20,000 | |||
10/15/21 | Paid rent | Rent | $3,000 | |
Cash | $3,000 |
Now, you can look back and see that the bank loan created $20,000 in liabilities. It’s also apparent that rent money came from your cash account. Money flowing through your business has a clear source and destination.
What does debit and credit mean?
It’s easier to explain debits and credits as accounting concepts, as opposed to physical things. Every transaction within your business produces a debit in one account and a credit in the other. Together, they represent money flowing into and out of your business — as one account increases, another has to decrease. A transaction that increases your assets, for example, would be recorded as a debit to that particular assets account. On the flip side, that transaction would also get recorded as a credit in another account. Credits increase revenue, liabilities and equity accounts, whereas debits increase asset and expense accounts. Debits are recorded on the left side of the page and credits are recorded on the right. The sum of every debit and its corresponding credit should always be zero.
Account type | Debit | Credit |
|---|---|---|
Assets | ⬆ | ⬇ |
Expenses | ⬆ | ⬇ |
Revenue | ⬇ | ⬆ |
Liabilities | ⬇ | ⬆ |
Equity | ⬇ | ⬆ |
What is the accounting equation?
This equation is at the heart of double-entry accounting:
Assets = Liabilities + Equity.
Liabilities and equity affect assets and vice versa, so as one side of the equation changes, the other side does, too. This helps explain why a single business transaction affects two accounts (and requires two entries) as opposed to just one. For example, when you take out a business loan, you increase (credit) your liabilities account because you’ll need to pay your lender back in the future. You simultaneously increase (debit) your cash assets because you have more cash to spend in the present. The same goes if you invest your own money into your startup business. Your assets increase (are debited) because now your business has cash. At the same time, owner’s equity increases (is credited) because now you’re a shareholder.
Double-entry accounting software
Most modern accounting software, like QuickBooks Online, Xero and FreshBooks, is based on the double-entry accounting system. When you enter your transactions into the software — typically using a form that looks like a check, invoice or bill — the second part of the transaction is automatically happening behind the scenes as part of the software’s programming. NerdWallet’s roundup of the best accounting software for small businesses can help you choose the right option for you.
If you’re not sure whether your accounting system is double-entry, a good rule of thumb is to look for a balance sheet. If you can produce a balance sheet from your accounting software without having to input anything other than the date for the report, you are using a double-entry accounting system.
Even if you use accounting software, there could be errors recorded in your bookkeeping. Sometimes, automated bank feeds either miss transactions or duplicate them. To prevent this from happening, you should complete a process called account reconciliation on a regular basis to keep your books accurate. That means you match every transaction in your accounting software to its corresponding bank statement.
