What are T-accounts?
T-accounts are called such because they are shaped like a T. A representation of the accounts in your general ledger, T-accounts can serve as a visual aid for bookkeepers and accounting personnel who are learning accounting processes, as well as those moving from single-entry to double-entry accounting.
The T-account, like all accounting transactions, always keeps debits on the left side of the T and credits on the right side of the T. Like a journal entry, T-account entries always impact two accounts. T-accounts can also impact balance sheet accounts such as assets as well as income statement accounts such as expenses.
How are T-accounts used?
No matter what type of accounting you are using, you can use a T-account as a visual aid in recording your financial transactions.
T-accounts can be particularly useful for figuring out complicated or closing entries, allowing you to visualize the impact the entries will have on your accounts. For instance, prior to processing closing entries, you can create a revenue T-account in order to check for accuracy. T-accounts also provide a tool for helping to ensure that your entries will balance.
When should you use T-accounts?
T-accounts are typically used by bookkeepers and accountants when trying to determine the proper journal entries to make. Here are some times when using T-accounts can be helpful.
- When teaching accounting or bookkeeping
Accounting principles can be difficult to understand, but using T-accounts to explain accounting principles can be helpful, particularly for those who may be struggling with understanding debits and credits and how to record them properly.
- When first learning accounting
T-accounts can be extremely useful for those struggling to understand accounting principles.
Even if you currently use or plan on using accounting software for your business, using T-accounts to record practice entries can be particularly helpful for those looking to better understand debits and credits and how they impact your financial statements.
- When trying to understand a complicated entry
If you’re still recording journal entries in various accounting journals or tracking financial transactions using spreadsheets, using T-accounts can guide you through the entry process, allowing you to see exactly how your entries will affect your accounts.
This can help prevent errors while also giving you a better understanding of the entire accounting process.
What is double-entry accounting?
Double-entry accounting is a method of bookkeeping that tracks where your money comes from and where it’s going. Every financial transaction gets two entries, a “debit” and a “credit” to describe whether money is being transferred to or from an account, respectively. Each accounting entry affects two different accounts: for example, if you sell a cup of coffee, your cash account goes up, and your inventory account goes down.
When making these journal entries in your general ledger, debit entries are recorded on the left, and credit entries on the right. All these entries get summarized in a trial balance, which shows the account balances and the totals of your total credits and total debits. If done correctly, your trial balance should show that the credit balance is the same as the debit balance.
There’s one more common accounting term you should know here: chart of accounts, which is a big list of all your accounts (what kind of transaction in your business is an asset, what’s a liability, what’s an equity, etc.). You can see an example here.
Recording transactions this way provides you with a detailed, comprehensive view of your financials—one that you couldn’t get using simpler systems like single-entry.
Types of accounts
There are five types of accounts: Asset, Liability, Equity, Income, and Expense. Income and Expense are sub-accounts under Equity, but they behave differently enough that they’re worth treating on their own.
- Assets are things that you have (say, cash in the checking account, or maybe a building) or that someone is legally obligated to give you later (such as Accounts Receivable).
- Liabilities are monies that you are legally obligated to pay to someone else—like debts, accounts payable, or financial aid money not yet disbursed.
- Equity—or, for non-profits, Net Assets—is what remains of your Assets after deducting your Liabilities. If you have $100 in Assets and $25 in Liabilities, your Net Assets/Equity would be $75. In a for-profit business, the shareholders would have some interest in that equity. But in a non-profit context, Net Assets are more like an ongoing resource.
- Income refers to the revenues you take in during a given time period. Your income accounts might read thus: Graduate Tuition, Undergraduate Tuition, Fees, Room & Board.
- Expenses are the costs you incur during a given time period. Utility Bills, Faculty Salaries, Insurance—these are typical expense accounts. Tuition discounts are also considered an expense.
Introduction to Debits and Credits
If the words “debits” and “credits” sound like a foreign language to you, you are more perceptive than you realize—”debits” and “credits” are words that have been traced back five hundred years to a document describing today’s double-entry accounting system.
Under the double-entry system every business transaction is recorded in at least two accounts. One account will receive a “debit” entry, meaning the amount will be entered on the left side of that account. Another account will receive a “credit” entry, meaning the amount will be entered on the right side of that account. The initial challenge with double-entry is to know which account should be debited and which account should be credited.
Before we explain and illustrate the debits and credits in accounting and bookkeeping, we will discuss the accounts in which the debits and credits will be entered or posted.
What Is An Account?
To keep a company’s financial data organized, accountants developed a system that sorts transactions into records called accounts. When a company’s accounting system is set up, the accounts most likely to be affected by the company’s transactions are identified and listed out. This list is referred to as the company’schart of accounts. Depending on the size of a company and the complexity of its business operations, the chart of accounts may list as few as thirty accounts or as many as thousands. A company has the flexibility of tailoring its chart of accounts to best meet its needs.
Within the chart of accounts the balance sheet accounts are listed first, followed by the income statement accounts. In other words, the accounts are organized in the chart of accounts as follows:
- Owner’s (Stockholders’) Equity
- Revenues or Income
Balance sheet accounts and profit and loss accounts
There are two main classes of accounts, which are derived from the balance sheet as subaccounts and subdivided as required: balance sheet accounts and profit and loss accounts.
The inventory accounts, as their name suggests, concern the raw materials, work in progress, and finished goods of a company. The asset accounts contain the tangible assets, inventories, cash and cash equivalents, and so on that are located on the asset side of the balance sheet. The liability accounts comprise the equity (business shares, reserves, annual surplus, etc.) as well as the borrowed capital (loans, outstanding invoices, and other liabilities) on the liabilities side of the balance sheet.
The equity capital of a company occupies a special position: The profit and loss accounts in accounting are sub-accounts from this balance sheet area – again divided into income accounts and expense accounts. These are mainly sales revenues – but asset growth is also included. In the expense accounts, you post expenses that reduce the company’s assets – for purchases, rent, interest, as well as wages and salaries.