THEORY OF DEBIT AND CREDIT

Double-entry Bookkeeping

Double-entry bookkeeping is a system of accounting which reports business transactions as different

entries in two separate accounts. The first type of account is known as a debit while the second type is called a

credit. In a double-entry system, the total amount of debits must equal the total amount of credits. This kind of

system reduces the number of errors associated with just recording income and expenses, also known as single-

entry bookkeeping.

Summa de Arithmetica, Geometria, Proportioni et Proportionalita

Although it is possible that double-entry bookkeeping had existed for hundreds of years prior, Frater Luca

Bartolomes Pacioli is the one credited as its originator since he was among the first to discuss it in detail in his book

Summa de Arithmetica, Geometria, Proportioni et Proportionalita. The Summa consists of two volumes. Double-

entry bookkeeping is contained in a treatise in the first volume entitled Particularis De Computis et Scripturis.

The Summa made very significant contributions to the study of modern commerce. For one, it was the

first book to use Hindu-Arabic arithmetic and algebra. Second, it contained an account of Venetian accounting as it

was practiced in Italy during Pacioli’s time. For example, Pacioli writes that for Venetian bookkeeping, “All the

creditors must appear in the ledger at the right-hand side, and all the debtors at the left. All entries made in the

ledger have to be double entries – that is, if you make one creditor, you must make someone debtor”.

The Summa was such an important body of work that its principles are in use even until today. Moreover,

because of his great contributions to the field of accounting, Pacioli is largely recognized as the Father of

Accounting by many modern scholars.

Pacioli’s Accounting Cycle

Pacioli alluded to three types of books in his writings, each of which were equally important: the waste

book or memorial, the journal, and the ledger. He outlined a sequence which starts with an inventory of the

“personal belongings and household goods, estates, etc.” of the merchant.

 Afterwards, individual transactions are recorded as they occur by the owner in the memorial. Nothing

should be omitted, and transactions have to be recorded in full. The memorial is a written record of transactions in

their respective order of occurrence. There was no standard presentation or format suggested for it.

For the journal, a particular form was advocated. All the entries in the inventory and the memorial are

transferred to the journal. Entries in the journal are recorded in the order in which the transactions occurred. Each

entry needs to distinguish between debit and credit. Accounts from the journal are then written in the ledger.

The ledger has an index or table that shows the position and page of each individual account. Despite the

short duration of business ventures at that time, Pacioli advocated for the closure of books and the periodic

computation of profits. Concerning the calculation of profit, Pacioli said that “there are certain accounts which one

may not wish to transfer (to the next accounting period), such as expenses and income. It is therefore required

that these accounts be closed to the profit and loss account.

As for the balance on profit and loss account, he said “having seen your gain or loss by this account, you

will then follow by closing and transferring it to capital accounts, where in the beginning of your affairs you

entered therein the inventory...”

Rules of Debits and Credits

The basic accounting equation is usually expressed as "Assets = Liabilities + Equity", which consists of the

left and right sides. The equation reflects the application of algebraic equations. Furthermore, the literature states

that 'debit' means left and that 'credit' means right; bookkeeping entries are made in two sides, and debits are

entered on the left side, with credits being entered on the right side. Pacioli used terminologies ‘per’ (debits) and

‘a’ (credit) to refer to left and right positions. In turn, most modern accounting textbooks define debits as the left

side and credits as the right side. Thus, the definitions of debits and credits, left and right, are closely related to the

accounting equation as an algebraic equation.

The rules are basically used to represent the increase of (addition) and decrease (subtraction) of the

assets, liabilities, and equity elements in the basic accounting equation. However, it would be incorrect to

conclude that the terminology of debit always means an increase (additions or pluses), or that the terminology of
credit always means a decrease (subtraction or minuses). The rules for debits and credits depend on the position

of the elements in the accounting equation. For example, assets, which are positioned on the left side of the

equation, are recorded (in each case by a positive number) in the debit (left) side when the assets increase, and in

the credit (right) side when they decrease. Similarly, liabilities and equity, which are positioned on the right side of

the equation, are recorded (in each case by a positive number) in the credit (right) side when the liabilities and

equity increase, and in the debit (left) side when they decrease. It will be evident that an accurate balance could be

constructed by making entries solely using the symbols of addition/plus and subtraction/minus.

Therefore, why do accountants make entries on two sides using the terminology of debit and credit? The

basic function of accounting is to provide financial information in which the financial measurement tool is always

positive to someone; it can never be negative. The absence of a negative value in monetary units is in accordance

with the facts contained in that period. Scholars confirm that a monetary unit was one of the factors encouraging

the development of double-entry bookkeeping. Consequently, the use of negative numbers to reflect the financial

information is prohibited. Therefore, to record the decrease in monetary value, the early initiator of double-entry

bookkeeping originated the idea of using two sides and moving what would be a negative number on one side to

the other side, where it is positive. Using this mechanism, a decrease in monetary value can be represented by a

positive number that, due to the meaning of the side in which it is placed, carries with it the meaning of a

decrease. This technique is essentially a mathematics procedure.

Development of the Double-entry System of Accounting

In the sixteenth and seventeenth centuries, the “Italian method” began to spread techniques such as the

introduction of journals meant for the recording of different types of transactions. Then there was the use of

subsidiary books used to record cash transactions as well as some particular types of expenditures. The practice of

period financial statements evolved in the sixteenth and seventeenth centuries. In the seventeenth century,

accounting acquired a better status characterized by the need for cost accounting and a reliance on the concepts

of continuity, periodicity, and accrual. In the seventeenth and eighteenth centuries was the evolution of the

personification of all accounts and transactions aimed at rationalizing the debit and credit rules that are applied to

impersonal and abstract accounts.

 The eighteenth century saw a treatment of assets such that at first, the asset is carried forward at original

cost and the difference between “revenue” receipts and payments were entered in the asset account and later

transferred to the profit and loss account at balance date. Secondly, the asset account contains the original cost of

the asset and other receipts and expenditures including proceeds from the sale of parts of the asset. This account

is closed at the balance sheet date and the difference between total debit and total credit is carried forward as the

account balance. However, during this period, there was no debit or credit to the profit and loss account. Thirdly,

upon revaluation of the asset, the new value of the asset is carried forward in the account while the balancing

difference which could be either gain or loss on revaluation is transferred to the profit and loss account. The

depreciation of assets, up to the early nineteenth century, was accounted for as unsold merchandise. Towards the

end of the nineteenth century, depreciation in the railroad industry was seen as an unnecessary activity except

where the asset in question was considered not to be in proper working condition.

The nineteenth century saw the emergence of cost accounting. It was also emphasized that accounting

records be used a means of exercising administrative control over the enterprise. In the early nineteenth century,

the persistent increase in the use of fixed assets led to the development of industrial cost accounting. Secondly,

changes in the way economic activities were organized did not only change the temporary structure of their costs,

but it also prompted the development of internal cost accounting procedures. In the latter half of the nineteenth

century, there was the development of some accounting techniques for prepayments and accruals so as to ensure

that the periodic computation profit is facilitated. The development of funds statements came at the latter part of

the nineteenth century and the twentieth century. The accounting methods for such complex issues as the

computation of earnings per share, accounting for business computations, accounting for inflation, long-term

leases and pensions were developed.

REFERENCES

Ovunda, A. S. (2015). Luca Pacioli’s Double-Entry System of Accounting: A Critique. Research Journal of Finance and
Accounting , 132-139.

Warsono, S. (2015). The Rationality of Rules of Debit and Credit. SSRN Electronic Journal, 1-21.