Golden rules of accounting: Explained with examples

Introduction

Golden Rules of Accounting are the general regulations that are followed by all the ones who are involved in the preparation of financials, whether for a company, trust, businesses, etc. These rules are basically the foundation of the accounting process as these are the basic rules that are to be followed to initiate the accounting process. Golden Rules of accounting are account specific which means that these rules are applied according to the accounts involved in the recording of a transaction, hence to understand the Golden Rules of Accounting with examples, we must know the different types of accounts as mentioned below.

1) Real Accounts: Real accounts refer to the general accounts which are used to represent the assets and liabilities of the business, excluding the people accounts. These accounts are not closed at the year-end and are carried forward to the next accounting cycles. For example, Cash Account, Furniture Account, Bank Account, etc.

2) Personal Accounts: Personal accounts are again the general accounts that are used to refer to people or firms, which include individuals, firms, AOPs, etc. These accounts, too, are not closed at the year-end, in fact, they are closed when the balance pertaining to these accounts becomes NIL. For example, Ram Account (Creditor), Shyam Account (Debtor), etc.

3) Nominal Accounts: These are again the general accounts that deal with all the incomes/gains and expenses/losses of the business. These accounts are closed at the year-end and are transferred to the Profit and Loss Account (Nominal Account) to find out the Net Profit/Loss. Post calculation of the Net Profit/Loss, the balance in the Profit and Loss Account is transferred to the Owner’s Capital Account (Personal Account)

Now after knowing about the different types of Accounts, We can discuss further the golden rules of accounting.

The golden rules of accounting are devised according to the accounts involved in a business transaction. The rules define the treatment of all the transactions conducted by the business. The golden rules of accounting with examples are mentioned below:

Rule 1

Debit What Comes In, Credit What Goes Out

This rule is applicable to Real Accounts. By going through the statement, it is very much clear that we debit what comes into the business and credit what goes out of the business.

Example Suppose a transaction of purchase of furniture in cash takes place in a business. Here in this transaction, there is an inflow of furniture into the business, but at the same time, there is an outflow of cash. So, according to the rule, in order to treat the transaction, The furniture account would be debited, and the cash account would be credited.

Rule 2

Debit The Receiver, Credit The Giver

This rule is applicable to Personal Accounts. 

Example Suppose a transaction of purchase of goods from Ram. Here in this transaction, there is an inflow of goods into the business, and also, Ram here is the Giver to the business. So the treatment would be, Purchase Account would be debited, and Ram Account would be Credited.

Rule 3

Debit all the expenses and losses of the business, Credit all incomes and gains of the business

This rule is applicable to Nominal Accounts.

Example Suppose a business spent an amount on its advertisement and paid the amount via cash. So in order to treat the transaction, the cash account would be credited as there is an outflow of cash, and the advertisement expense account would be debited as it is an expense to the business.

Also, if the business would have received a commission income via cash, then in that case a cash account would have been debited as there would be an inflow of cash, and the commission account would have been credited as it is an income for the business.

After getting through the rules, now let’s discuss what is debit and credit notes.

What is a Debit Note?

A debit note is basically a commercial document used by the sellers in order to inform their buyers about their debt obligations towards the firm. This document can also be used by the buyer in case the goods purchased are returned to the seller. In that case, this document informs the seller that the obligation of the buyer towards the firm has been decreased by the value of goods returned.

What is a Credit Note?

A credit note is basically a commercial document where the seller usually informs the buyer that the buyer’s account has been credited according to the books of the firm. This document is usually used in case of sales return transactions.

Thus, the importance of what is debit and credit notes reflects in the accounting system by keeping a track for future transactions.

Also Read- Why to Study an Accounting Course?