What Is a Debit and Credit? Bookkeeping Basics Explained

Debit and Credit Rules for 3 Different Account Types

There are three “Account Types”. All accounts have been classified into either of Real, Personal or Nominal accounts. The rules for entering transactions into these groups of accounts are as follows:

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What Are Credit Cards?

Unlike debit cards, credit cards are not connected to a checking account. Instead, they are tied to a financial institution, such as a bank or credit company, that is in the business of issuing revolving lines of credit to consumers. Whereas a debit card transaction is mainly between the buyer and seller, a credit card transaction specifically involves a third party: the institution who has loaned money to the buyer.

For example, if you use your credit card to buy $30 of groceries, you are not directly paying the grocery store. Instead, the grocery store is paid $30 by the credit issuer. This is $30 that you now owe the credit card issuer.

With a credit card, you are never limited by the amount of money you have in your checking account, which can be one of the major cons to debit cards for many consumers. Instead, you are limited by whatever the credit limit on the card is. If you are new to the world of credit, a credit card company may only issue you a card with a $1,000 credit limit. This means you only have $1,000 of revolving credit to use. Some card issuers increase credit limits over time for those who build up a good credit history by paying off their credit card each month (i.e., paying back their loan).

It is relatively harder to get a credit card than it is to get a debit card, especially for those with no credit history or a poor credit history. When you apply for a credit card, the issuer evaluates your creditworthiness to determine how risky it is to loan you money. If the issuing company believes you are a poor credit risk, your application for a credit card will be rejected.

Best accounting software to track debits and credits

General ledger accounting is a necessity for your business, no matter its size. If you want help tracking assets and liabilities properly, the best solution is to use accounting software. Here are a few choices that are particularly well suited for smaller businesses.

1. Xero

Xero is an easy-to-use online accounting application designed for small businesses. Xero offers a long list of features including invoicing, expense management, inventory management, and bill payment.

The dashboard in Xero offers a summary of current

The dashboard in Xero offers a summary of current account activity.

Xero offers double-entry accounting, as well as the option to enter journal entries. Reporting options are also good in Xero, and the application offers integration with more than 700 third-party apps, which can be incredibly useful for small businesses on a budget.

Xero offers three plans: Early, Growing, and Established, with the Early plan currently $9/month; Growing is currently $30/month; while Established is $40/month, with a 30-day free trial available.

2. Sage Business Cloud Accounting

Best suited for very small businesses, Sage Business Cloud Accounting is also a good choice for freelancers and sole proprietors who want to manage business finances properly.

Sage Business Cloud Accounting’s Sales Summary pag

Sage Business Cloud Accounting’s Sales Summary page offers an overview of sales activity.

Sage Business Cloud Accounting offers double-entry accounting capability, as well as solid income and expense tracking. Reporting options are fair in the application, but customization options are limited to exporting to a CSV file.

Sage Business Cloud Accounting offers two plans: Accounting Start and Accounting, with Accounting Start only suitable for very small businesses. Accounting Start is $10/month, while Accounting is currently $25/month, with both plans offering invoicing, tracking, and bank connectivity.

3. Kashoo

Kashoo is an online accounting software application ideally suited for start-ups, freelancers, and small businesses.

Kashoo offers good income and expense management c

Kashoo offers good income and expense management capability.

Kashoo offers a surprisingly sophisticated journal entry feature, which allows you to post any necessary journal entries. Reporting options are limited to financial statements and a couple of list reports, with few customization options available, though reports can be exported to Microsoft Excel if customization is desired.

Kashoo offers a single plan for all subscribers, with the plan running $199/year, or $19.95/month, and supports an unlimited number of users.

Pros and Cons of Credit Cards

Pros
  • Time to notice errors

  • Can build credit

  • Offer rewards

  • Have high limits

Cons Can lose up to $50 to fraud Can hurt credit Potential for overspending

Credit cards allow you to borrow money from a financial services company to pay for items or services. When you use one, the card issuer pays the recipient on your behalf, and you later repay the card issuer. While these cards are convenient, they are not without their downsides.

They Are Less Risky, But Losses Occur

With a credit card, you have time between when you make the purchase and when your payment is due. That gives you more time to notice errors and dispute them while keeping your checking account intact. When you (or thieves with your card and PIN) use a debit card, the money immediately comes out of your checking account.

Credit cards also offer protection against fraud. That said, today, most debit cards offer voluntary “zero liability” coverage. In addition, you can still lose money (albeit a small amount) with credit cards. With credit cards, you can’t lose more than $50 to fraud, but with debit cards, your liability is potentially unlimited under federal law.

They Can Build Credit or Hurt It

Keeping a credit card account open helps you build a strong credit history or keep your credit in good shape. Debit cards do not affect your credit. Some die-hard debit card users may say they don’t care about credit scores because they’ll never need to borrow, but those scores are important. You might want to borrow someday (to buy a home or automobile, for example), and starting from scratch is hard.

You won’t pay any interest charges if you pay off your credit card balances in full every month. However, if you fall behind on payments, your credit score could drop, which generally isn't a possibility with debit cards.

They Offer Rewards, but Debit Has Its Perks

If you’re incentivized by bonuses, credit cards on the whole offer better rewards than debit cards in the form of sign-up bonuses, discounts, cashback, and travel points. Some credit cards even offer extended warranties on items you purchase as well as limited travel insurance.

While the average debit card doesn't offer such rewards, a small subset of debit cards linked to "rewards" checking accounts offer some of these benefits. For example, there are multiple cashback debit cards on the market.

Some rewards debit cards carry fees or impose spending restrictions that may outweigh the rewards, so read the fine print.

They Have High Limits but Promote Overspending

Credit cards often come with limits that are greater than the amount of cash you keep in checking. As a result, you don’t have to worry about hitting your limit due to authorizations and holds. You’ll have fewer problems using your card for rental cars, hotels, gas at the pump, and dining, all of which have pre-authorization holds that lock up funds for several days.

If you have trouble budgeting, you can easily max out your credit limit, sending you further into debt and hurting your credit score. In contrast, you can only spend money you have with a debit card, so it can curb the impulse to spend.

Debit vs. Credit: The Benefits of Using a Debit Card

Debit cards don’t charge you interest

In 2021, the average credit card interest rate increased to 17.13%.1 Multiply that by the 55 million American households who have a credit card balance ($787 billion total), and credit card companies stand to make $134.81 billion in interest alone.2,3,4 Man, we’re boiling just thinking about it!

In a system that’s built to keep you owing more, using a debit card is a great way to take back control. You can walk up, swipe your debit card, and be on your way with your purchase. Done. No payments six months from now. No 17% interest on your account. No 90-days-same-as-cash with five pages of fine print. No annual fees. With a debit card, you can buy what you need—and avoid the useless fees.

You spend less when you use a debit card

It’s true. Studies show that people spend more when they pay with a credit card than they do when they pay with cash (aka your own money).5

When you swipe a credit card, it feels like you’re playing around with imaginary money, so it’s easier to spend more of it. But this isn’t a game of Monopoly—if you’re putting something on credit, odds are you don’t have the money to cover it from your own bank account. And if you don’t have the money right now to buy something, you shouldn’t buy it. Period.

Debit the receiver and Credit the giver Personal Accounts

Personal accounts constitute the accounts of an owner, partners, shareholders (Capital and Drawings Account), customers and suppliers (Debtor or Creditor) etc. When a payment is made to somebody, you debit the receiver of that payment and credit Cash or Bank as money is paid from cash or by means of cheque. When money or cheques are received, you credit the person who is paying you and you debit the cash or bank.

Can you earn rewards with a debit card?

Typically, no. While debit cards don’t earn points or miles for each purchase, the accounts from which they draw funds may offer users perks in exchange for a certain number of transactions. Standard debit cards also often offer a round-up feature that allows users to transfer small amounts of money to a savings account, a feature that’s impossible with credit cards.

The difference between debit and credit

The balance sheet formula (or accounting equation) determines whether you use a debit vs. credit for a particular account. The balance sheet is one of the three basic financial statements that every owner analyzes to make financial decisions. Owners also review the income statement and the statement of cash flow.

If you understand the components of the balance sheet, the formula will make sense to you.

Cons of Using Credit Cards

The main drawbacks of using credit cards involve debt, credit score impacts, and cost.

Spending Can Lead to Debt

When you make purchases with a credit card, you’re spending the bank’s money, not your own. This money has to be repaid, with interest. At the very least, you’re required to make the minimum payment due each month. Racking up high balances on multiple cards could make it difficult to keep up with monthly payments and strain your budget.

Credit Score Impacts

Paying your bill on time and keeping balances on credit cards low can help your FICO scores. However, misusing credit cards could hurt your credit history if you get into the habit of paying late, max out one or more of your cards, close down older accounts, or apply for new credit too often.

Set up credit card alerts to notify you of payment due dates and card balances, so you can pay on time and avoid maxing out your credit limit.

Interest and Fees

Because a credit card is essentially a short-term loan, you’ll have to pay back what you spend with interest. The interest rate and the fees that the credit company charges are used to calculate your annual percentage rate (APR). The higher the card’s APR, the more it will cost you to carry a balance from month to month.

You should be aware of whether your card charges an annual fee, a foreign transaction fee, a balance transfer fee, a cash advance fee, a late payment fee, or a returned-payment fee. As a general rule of thumb, the better a credit card’s rewards program is and the more benefits it offers, the higher the annual fee will be.

What If You Pick “Credit” When You Swipe Your Debit Card?

When using your debit card, you often have the option to pick a “credit” transaction, which may require a signature rather than a PIN (or it may require no verification).

But it’s important to note: Choosing credit won’t make your debit card act like a credit card.

This option doesn’t help you establish credit history, and it doesn’t give you additional consumer protections. Instead, selecting “credit” or “debit” just determines how the merchant processes the card (and what fees it pays).

Your selection at checkout could also change the time it takes for your bank to process the transaction. Whereas “credit” transactions might take a few days to clear, “debit” transactions hit your checking account immediately. That’s why, if you don’t have enough money in your account to cover the purchase, selecting “credit” sometimes permits the transaction to go through.

For further details about what happens when you select “credit” vs. “debit” at checkout, see this Reddit thread.

Using credit

If you don’t have enough cash to operate your business, you can use credit cards to fund operations, or borrow from a line of credit. You’ll pay interest charges for both forms of credit, and borrowing money impacts your business credit history.

If you use credit cards, check the card issuer website frequently to review your activity. Keep an eye out for fraudulent charges, and make all payments on time. Fortunately, the federal government has put stronger consumer protection laws in place to protect cardholders.

All credit card issuers offer perks, but don’t let that potential benefit determine your use of credit. Credit cards charge high interest rates, and you should limit your spending

The information discussed here can help you post debits and credits faster, and avoid errors. The final step is to write everything down.

How can I tell the difference between a debit card and a credit card?

It's difficult to tell the difference between a debit card and a credit card by looking at a card. They both have card numbers, expiration dates, and a card security code. If you're unsure whether a card is a debit or credit card, contact the card issuer for more information.

Debit vs credit: What’s the difference?

Debits: A debit is an accounting transaction that increases either an asset account like cash or an expense account like utility expense. Debits are always entered on the left side of a journal entry.

Credits: A credit is an accounting transaction that increases a liability account such as loans payable, or an equity account such as capital. A credit is always entered on the right side of a journal entry.

If you’re unsure when to debit and when to credit an account, check out our t-chart below.

How Debits and Credits Work

When you pay a bill or make a purchase, one account decreases in value (value is withdrawn, which is a debit), and another account increases in value (value is received which is a credit). The table below can help you decide whether to debit or credit a certain type of account.

Table 1   Increase Decrease Assets Debit Credit Liabilities Credit Debit Shareholder's Equity Credit Debit Revenue Credit Debit Expenses Debit Credit Chart of Accounts

Consider this example. A business receives its monthly electric utility bill in the amount of $550. You would debit, or increase, your utility expense account by $550, and credit, or increase, your accounts payable account by $550. Utility expense is a sub-account of the expense account on the income statement. Those are equal and opposite journal entries. The accounting entry you would make in your accounting journal would be the following:

Table 2 Date Account Name Debit Credit May 1 Utility Expense $550       Accounts Payable   $550         Example of an Accounting Journal Entry Using a Debit and Credit

In an accounting journal, debits and credits will always be in adjacent columns on a page. Debits will be on the left, and credits on the right. Entries are recorded in the relevant column for the transaction being entered.

Determining whether a transaction is a debit or credit is the challenging part. This is where T-accounts become useful. T-accounts are used by accounting instructors to teach students how to record accounting transactions.

Comments: Credit Card vs Debit Card

Anonymous comments (5)

December 4, 2013, 4:09pm

Helpful

— 94.✗.✗.68

October 6, 2013, 5:22pm

Thanks for the information!

— 92.✗.✗.178

March 7, 2014, 10:46am

Thanx

— 117.✗.✗.165

March 19, 2014, 6:43pm

Good

— 123.✗.✗.174

September 21, 2013, 4:35am I wish that shopping sites could provide EMI on debit cards. — 101.✗.✗.4

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