What is Double Entry Accounting System?

The accounting method known as “double entry” is based on the analogy that each transaction is comprised of two or more components, each of which needs to be recorded because the transaction involves both bringing something inside and taking something outside the business.

Double Entry Accounting System: Introduction

The foundation of the double-entry accounting system is the idea that each transaction should have simultaneous debits and credits recorded in at least two accounts. Accordingly, each transaction is recorded in at least two different accounts based on the logic that every financial transaction has two sides, and hence each transaction affects at least two different accounts.

For example, when a company buys inventory, it must record it in both the purchase/supplies account and the accounts payable. Both the supplies and accounts payable ledgers will increase by the amount of the purchase.

In a double-entry accounting system, every transaction is recorded in two or more separate accounts. The ledger is balanced by recording equal debit and credit entries for each transaction. This system ensures preliminary accuracy by comparing whether the debit and credit sides of each entry are equal.

Regardless of a company’s size, industry, location, organisational structure, or other factors, the double-entry accounting system is a vital tool for bookkeeping and financial record-keeping. Double-entry accounting is actually a very straightforward system, despite its apparent complexity. Double-entry accounting, in its most basic form, involves recording each transaction in two accounts. Furthermore, single-entry accounting is easier to manipulate than the double-entry accounting system.

Benefits of double-entry accounting system (Pros)

Businesses of all sizes, including nonprofit organisations, can benefit from a double-entry accounting system in a number of ways. Perhaps its greatest advantage is that it checks the math involved in transactions. It guarantees accuracy, stops fraud, and offers pertinent data for better decision-making:

i) The least possibility of a transaction being overlooked is because every transaction must be recorded in two accounts. which ensures that all revenues and outlays are recorded;

ii) Incorrect transactions are immediately apparent, ensuring the accuracy of financial records;

iii) gives a transparent picture of the financial position, which facilitates better decision-making;

iv) checks on manipulations and fraud prevention;

v) Transactions are meticulously documented, which is useful in the event of a dispute;

vi) simplifies the preparation of financial statements because all the information needed is already present in the ledger accounts and balances, saving time and reducing the chance of errors;

vii) assistance in obtaining the necessary information for tax filing and financing arrangements;

viii) suitable for compliance with the majority of jurisdictions’ financial reporting requirements;

ix) swiftly identifying and correcting financial record errors; and

x) Allocating resources more wisely by accurately and effectively tracking costs and revenues, which helps companies track their financial performance and figure out where and how much to invest more wisely.

Drawbacks of double-entry accounting system (Cons)

There are benefits and drawbacks to using a double-entry accounting system. There are strict rules and concepts in this system, making it challenging to learn. Small business owners who are already overworked may become discouraged as a result.

The double-entry accounting system has some drawbacks even though it is the most accurate way to track a company’s finances. The main drawback is that it can take a lot of time to set up and keep updated. This is due to the requirement that each transaction be recorded in two different accounts. As a result, it may be difficult to keep track of all the different transactions that have been successfully completed.

Another drawback is that entering data into the system can be prone to mistakes. A single incorrect transaction can cause the entire system to malfunction. It may be difficult to produce accurate financial statements as a result. The double-entry accounting system’s built-in checks and balances cannot guarantee that both entries are immediately recorded in the appropriate accounts, but this can be discovered and corrected later on.

The double-entry accounting system is still the most effective way to monitor a company’s finances, despite some drawbacks.

How does a double entry accounting system work?

In a double-entry accounting system, each transaction is recorded in at least two different types of accounts, such as assets, liabilities, owner’s equity, revenue, and expenses. A computerised accounting system enters transactions directly into the ledger accounts, as opposed to a manual accounting system where entries are first made in a journal and then transferred to the corresponding ledger accounts.

The total debits must equal the total credits for each transaction, according to the double entry principle, which serves as the cornerstone of all double entry systems. In other words, the debits and credits must always match when transactions are entered into ledger accounts.

The double entry principle mandates that every transaction be recorded at least twice, which is helpful for accuracy. If the debits and credits’ totals don’t add up, there has been a mistake, and the transaction needs to be corrected.

How to set up a double entry accounting system

Each transaction is recorded in two different accounts under a double entry accounting system. This system gives you a clearer picture of your finances and can help you avoid making mistakes.

Create two columns in a ledger or software programme in order to set up a double entry accounting system. Debit amounts should go in the first column, and credit amounts should go in the second. Always make sure that the totals in the credit and debit columns add up to the same amount.

Once your double-entry accounting system is in place, you must choose which transactions should be recorded as credits and which as debits. Liabilities and revenues are typically classified as credits, while assets and expenses are debits. But in some situations, this isn’t true. If you aren’t sure how to classify a transaction, you should talk to an accountant or other financial expert right away.

Tips for using a double entry accounting system

If you are unfamiliar with double entry accounting, the following guidelines can help you get started:

i) Before you get started, you should spend some time getting familiar with the fundamentals of debits and credits. In a bookkeeping method known as “double entry,” each transaction will involve a debit as well as a credit entry. As a result of this, in order to correctly record transactions, you need to have an understanding of how these two concepts function.

ii) To simplify and speed up the process, use accounting software. You will save time and avoid making mistakes if you follow these instructions.

iii) Make sure that you carefully document each and every transaction that you engage in. This will not only make it easier for you to identify any errors that may occur, but it will also make it simpler for you to put together financial statements.

iv) Have your work checked over by a second set of eyes at regular intervals. This will assist you in spotting any errors that you might have overlooked previously.

Troubleshooting a double entry accounting system

There are a few things you can do to try and fix the problem if your double-entry accounting system is giving you problems.

Verify first that both the debit and credit columns are filled in for every transaction. To maintain bookkeeping accuracy, transactions should always be entered into both columns.

If you’re still having trouble, try looking at your transactions from an alternative perspective. Look at them in terms of what went into and what came out of your business, rather than what was debited and what was credited. This can help you identify any possible inconsistencies in your entries.

Hire a seasoned accountant or bookkeeper to help you with your double-entry accounting system if you’re still having issues. They will be able to point out any errors you may have made and provide advice on how to correct them.