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Expenses/costs/purchases/overheads

These are the amounts, costs or debits, in respect of goods and services supplied (employees could also be considered as suppliers of labour). The other side of the double-entry equation is that for every purchase transaction there should be an equal (in amount) asset decrease (cash paid out) or liability increase - creditor recorded as payable.

There are thus only two signs in bookkeeping; debit and credit or debtor and creditor may be more appropriate words for balance sheet items. There are the two statements - P&L account and balance sheet - to be produced; therefore the simple matrix shown in Table 4.1 may be considered.

TABLE 4.1 Assets, liabilities, income and expense

Balance Sheet

Asset

Liability

owes value to the business

business owes to outsiders

Examples

motor car stock

due to supplier bank loan

Book keeping term

debtor or

creditor or

debit balance

credit balance

P & L Account

Expense

Income

amount due by the business (hopefully for some value!)

amount due to the business

Examples

stationery

sales

labour

interest on bank deposit

Book keeping term

debit balance

credit balance

Their place in financial statements

The words 'debit' and 'credit' may appear to be used in contradictory ways, but it is important to appreciate the different nature of the P&L account and balance sheet. One way of considering them is to think of the P&L account as recording events and the balance sheet as recording the resulting asset/ liability position of the business.

Bookkeeping is about recording every single event or transaction into which a business enters. A sale (presumably good news) gives rise to credits in the P&L account and a debit (debtor) increase in asset in the balance sheet, again good news.

An expense (not good news, but hopefully the incurring of expense is worthwhile or at least necessary) gives rise to debits in the P&L account and either a credit - increase in liabilities (creditors) in the balance sheet - or a decrease in assets; in arithmetical terms this is a credit to the asset account, therefore decreasing the asset debtor balance!

Readers will naturally understand assets, liabilities, income and expense but may find the GAAP Framework definitions more to their liking, or not! The point is that you may have to relate to finance and other folk who talk in this language.

 
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