Is an Increase in Expense a Debit or Credit?

In accounting, every financial transaction is recorded using a system of debits and credits. These terms represent the dual effect of each transaction, ensuring the accounting equation remains balanced. Debits and credits are not synonymous with increases or decreases in value; instead, they indicate which side of an account an entry is made on. Understanding their application is fundamental to accurate financial records.

Understanding the Accounting Equation

The fundamental principle governing all accounting transactions is represented by the accounting equation: Assets = Liabilities + Equity. Assets are resources a business owns that provide future economic benefit, such as cash, accounts receivable, or equipment. Liabilities represent obligations or amounts owed to external parties, like accounts payable or loans. Equity is the residual interest in the assets after deducting liabilities, essentially representing the owners’ stake in the business.

Revenues and expenses significantly impact the equity component of this equation. Revenues, which are earnings from a business’s primary activities, increase equity. Conversely, expenses are the costs incurred in generating those revenues, and they cause a decrease in equity. Managing expenses directly affects a company’s profitability and equity.

Applying Debit and Credit Rules

The rules for applying debits and credits depend on the type of account involved. For asset accounts, an increase is recorded as a debit, and a decrease is recorded as a credit. When a business acquires a new asset, such as purchasing equipment, the equipment account is debited. Conversely, when an asset is sold or used up, its account is credited.

Liability and equity accounts follow the opposite convention. An increase in a liability or equity account is recorded as a credit, while a decrease is recorded as a debit. For instance, when a business takes out a loan, the loan payable account, which is a liability, is credited. Similarly, when owners invest more capital into the business, the equity account is credited.

Revenue and expense accounts also adhere to specific debit and credit rules. Revenue accounts, like equity, increase with a credit and decrease with a debit. Expense accounts, however, follow the same rule as asset accounts: an increase in an expense is recorded as a debit, and a decrease is recorded as a credit. Therefore, when a business incurs an expense, such as paying for utilities or salaries, the relevant expense account is debited.

Real-World Examples of Expenses

Consider a business that pays its monthly rent. When the rent payment is made, the Rent Expense account increases. This increase is recorded as a debit. Simultaneously, the Cash account, an asset, decreases, and this decrease is recorded as a credit.

A utility bill provides another common example. When a business pays its electric bill, the Utilities Expense account increases. This increase is recorded as a debit. The corresponding credit is to the Cash account.

When a company pays its employees, the Salaries Expense account increases. This increase is recorded as a debit. The credit is to the Cash account, or to a Salaries Payable liability account if payment is delayed.