Classification of accounts and Rules of Debit and Credit

Normally there are five categories of accounts (First category). They are;

1.      Asset Accounts (Buildings, plant, furniture, cash, inventory, debtors etc.)

2.      Expense Accounts (salary, rent, electricity, depreciation etc.

3.      Liability Accounts (debentures, loans, creditors, outstanding expenses etc.

4.      Income Accounts (interest, dividend, commission, fees etc. received)

5.      Capital Accounts. (Equity share capital, preference share capital etc.)

There is another categorization of accounts. (second category)

1.      Personal Accounts

2.      Real Accounts

3.      Nominal Accounts

Rules of debit and credit (when to debit an account and when to credit an account)

Rule of debit and credit based on first categorization;

Account	Effect	Debit/Credit
Assets	increase	debit
	decrease	credit
Expenses	increase	debit
	decrease	credit
liabilities	increase	credit
	decrease	debit
Incomes/revenue	increase	credit
	decrease	debit
capital	increase	credit
	decrease	debit

Rule of debit and credit based on second categorization;

Name of Account as per first categorization	Name of Account as per second categorization	Rule
Capital Account Liabilities Accounts	Personal Account	Debit the Receiver Credit the Giver
Assets	Real Account	Debit What Comes In Credit What Goes Out
Income/Revenue Expenses	Nominal Account	Debit All Expenses and Losses Credit All Incomes and Gain

Let us go through some examples

Example 1. Mr. Kevin started a business with £50000.

Step 1- Identify the two accounts involved in this transaction

1.      Capital Account

2.      Asset Account (cash is an asset)

Step 2- Understand the nature of the impact of the transaction on the two accounts (capital and cash)

            For the business the amount of capital is increased by £50000 as result of the transaction

            Cash is also increased by £50000

Step 3- Decide which account is to be debited and which is to be credited.

            We know that when capital account increases it is to be Credited and,

            When asset account (here it is cash) increases it is to be Debited

So, 

Debit Cash Account with £50000

Credit Capital Account with £50000