Every organisation in India is legally required to keep financial records, which it then makes available to all interested parties. Bookkeeping is the most crucial component of financial accounting, which is the recording of financials. There are two entries: credit and debit. The principles known as the "golden rules of accounting" guarantee that bookkeeping is done methodically.
What are the Golden Rules of Accounting?
To put it simply, the golden rules of accounting are a set of standards that accountants can adhere to when recording financial transactions methodically. They centre on the dual entry, or credit and debit, mechanism. You must know which accounts require crediting and which must be debited.
These guidelines will help determine which account should be credited and debited. A series of guidelines known as the "accounting golden rules" make it possible to simplify the intricate bookkeeping regulations.
You must choose the appropriate account type for each transaction in accordance with these guidelines. A different set of policies must be followed for every kind of account throughout every transaction.
Rule 1: Debit all expenses and losses, credit all incomes and gains
Nominal accounts are covered under this golden accounting rule. It has a credit balance because it views a company's capital as a liability. Consequently, when gains and income are credited, the capital will rise. On the other hand, when losses and expenses are subtracted from it, this capital is decreased.
Rule 2: Debit the receiver, credit the giver
The principle of "Debit the receiver, Credit the giver" applies to personal accounts. An inflow is a payment made to a business by a natural or artificial entity. As a result, the company receiving the funds must be credited in the books, and the receiver must be debited.
Rule 3: Debit what comes in, credit what goes out
This regulation applies to real accounts, including tangible assets such as furniture, buildings, machinery, and land. Every payment received is automatically debited from the default debiting balance and added to the current account balance.
Similar to this, when a tangible asset leaves the organisation, the account balance must be credited.
Advantages Of The Three Golden Accounting Rules
Adhering to the Golden Rules of Accounting has many advantages for both individuals and organisations.
1) Accurate Transaction Recording
Accuracy guarantees that every transaction is accurately documented. The company's finances are balanced, which lowers the possibility of mistakes and guarantees the accuracy of the financial statements.
2) Efficient Observance Of Relevant Laws
The widely recognised accounting principles form the foundation of the golden rules, guaranteeing that the financial statements conform to accounting norms and guidelines. Compliance is crucial for building stakeholder trust and avoiding fines and legal issues.
3) Determining the Business's Valuation
Analysing a business to ascertain its valuation is one advantage of the three accounting standards. When businesses keep accurate records of all their financial transactions and maintain accounting books, they can efficiently ascertain their current business valuation.
4) Improved Decision-Making
Dependable and accurate financial accounts assist stakeholders in making knowledgeable choices on an organisation's financial standing. Decisions about loans, mergers, acquisitions, and investments may be among them.
Account Types
The golden rules of accounting, which control financial accounting and transaction recording, have categorised three accounts. Every financial transaction that an organisation records will be associated with one of the three accounts listed below.
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Nominal Account
A general ledger's nominal account is where a company keeps track of its financial activities, including earnings, losses, profits, and expenses. Income and spending are the foundation of a nominal account's operation. This rule credits gains or revenue when they occur and debits them when they do. Conversely, a decrease is credited, and an increase in costs or losses is debited.
A business's financial transactions during a fiscal year are recorded in the nominal account, which is reset to zero at the beginning of the next fiscal year. Sales accounts, rent accounts, cost accounts for labour, and interest accounts are a few types of nominal accounts.
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Personal Account
A personal account is a general ledger that operates on the debit and credit principle and records financial transactions about people, businesses, and associations. There are three categories of personal accounts.
- Artificial Personal Account:
According to the legislation, this personal account keeps track of financial transactions for non-human legal entities. Banks, businesses, hospitals, partnerships, and other establishments are a few entities that employ fictitious personal accounts.
- Natural Personal Account:
An entity such as a supplier or client is considered a natural person, and all of their financial transactions are documented in a natural personal account. An individual with a legal personality and the ability to sign contracts or agreements is natural.
- Representative Personal Account:
This type of account tracks financial activities on behalf of an individual or organisation that represents another individual or organisation. The representative's account monitors every transaction related to the representative's activities.
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Actual Account
Similar to a general ledger, but with a few key differences: a real account keeps track of all financial activities pertaining to an organisation's assets and obligations. Since the balances of real accounts are carried over to the following accounting period and are not closed after the accounting period, they are sometimes referred to as perpetual accounts.
Tangible and intangible assets are further separated out in the real accounts' assets section. Intangible assets are virtual and include goodwill, copyrights, patents, and other virtual properties. Tangible assets are things that have a real existence, such as land, machinery, buildings, etc.
The "golden rules of real accounts" dictate that assets must be credited as they increase and debited when they fall. However, liabilities are debited when they drop and credited when they increase. The balance in a real account represents the net value of an asset, liability, or equity account.
Conclusion
Every transaction made by an entity needs to be recorded. The entity needs to pass journal entries, which will sum up into ledgers, in order to account for these transactions. The Golden Rules of Accounting serve as the foundation for passing the journal entries. To implement these guidelines, one must first identify the kind of account in question. These are known as the Golden Rules of Accounting because they establish the fundamentals of the field.
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