What is a journal entry?

A journal entry is a record of a financial transaction in your business’s accounting system. Every entry records debits and credits to at least two accounts, which keeps the accounting equation (Assets = Liabilities + Equity) in balance.

Why are journal entries important?

Ultimately, it’s because they create an audit trail of every financial transaction you make. They make sure your financial records are accurate, and your financial reports show the true state of your business’s financial health.

Without proper journal entries, your account balances would be unreliable. And that has knock-on effects. Good records help you stay on top of compliance with your tax and reporting obligations, as well as help you track cash flow and make smarter decisions.

How is a journal entry structured?

Every journal entry includes five elements: the transaction date, account titles for all accounts affected, the debit amount, the credit amount and a brief description of the transaction.

The debit is recorded on the left side; the corresponding credit goes on the right. Debits and credits must always balance; total debits have to equal total credits, and total credits have to equal total debits. Every entry also gets its own reference number for tracking.

How do debits and credits work in journal entries?

Debits work by increasing asset and expense accounts. Credits increase liability accounts, revenue accounts and equity, which is how the double-entry accounting system keeps the accounting equation balanced.

Let’s say you buy $500 in office supplies with cash, you debit the office supplies expense account by $500, and credit the cash account by the same amount. The entry has equal debits and equal credits.

What are the different types of journal entries?

There are several types of journal entries, the most common of which are:

• Simple journal entries impact just two accounts; one account is debited, and another is credited.
• Compound journal entries involve multiple accounts on one or both sides of the journal. Paying a supplier invoice, for example, might debit accounts payable and credit both the cash account and a discount account.
• Adjusting entries update account balances at the end of an accounting period for accrued revenue and expense accounts.
• Closing entries close temporary accounts like revenue and expense accounts at period end, transferring balances to retained earnings in the permanent accounts.

What are the different types of accounts in journal entries?

Accounts fall into three categories. First, there are real accounts (aka permanent accounts), which are asset and liability accounts that carry balances into the next period. Then there are nominal accounts (aka temporary accounts), which are revenue and expense accounts that reset at the end of each period.

Finally, there are personal accounts, which track transactions with individuals or businesses — think accounts receivable and accounts payable. At year-end, you close temporary accounts and transfer balances to retained earnings on the balance sheet.

How do you record journal entries?

First, you’ll need to identify the accounts involved in the business transaction. Then decide which accounts are debited and which are credited. Enter the transaction date, account titles, debit and credit amounts, a reference number and a short description.

Journal entries are then posted to ledger accounts in the general ledger. From there, they flow into your financial statements and financial reports. A transaction record with a unique reference number makes it easy to track journal entries and keep an obvious audit trail.

What are common mistakes when creating journal entries?

A few of them include posting to the wrong accounts, entering unequal debit and credit amounts, and forgetting to include a description. Remember that even small errors can completely throw off your financial statements.

Use accounting software to track journal entries and automate journal entry creation. Software makes sure that debits equal credits, and it can flag errors before they reach the general ledger and help you keep accurate financial records – even without deep accounting experience. It also helps you debit accounts payable, credit the correct accounts, and constitute legal records for tax time.

Pro tip: Every business transaction needs a journal entry. Whether you pay for office supplies or receive payment from a customer, the same rules apply.

Good journal entry-creation habits save your business time and prevent costly mistakes from appearing in your financial reports. If you don’t have much accounting experience, start with basic journal entries and build out from there. Use a reference number system to track every transaction and keep your general ledger in good standing.

Journal entries are the backbone of solid financial records. Without them, your balance sheet, income statement and financial reports become unreliable. So whether you’re recording a cash transaction or a complicated compound journal entry, the same principles of the double-entry accounting system apply. Consistent journal entries will protect your business and keep your accounting process on track.