đź’ˇ In accounting, a journal entry is used to record a business transaction in the company's general ledger. Each journal entry affects at least two accounts and maintains the accounting equation of Assets = Liabilities + Owner's Equity.
Definition and basic examples
A typical journal entry consists of the following:
- Date of the transaction
- Account titles and amounts to be debited
- Account titles and amounts to be credited
The debit and credit amounts must be equal to keep the accounting equation in balance.
Exmples:
- Purchasing inventory on credit: Dr. Inventory $5,000 Cr. Accounts Payable $5,000
- Recording cash sales revenue: Dr. Cash $2,500 Cr. Revenue $2,500
- Paying rent expense: Dr. Rent Expense $1,200 Cr. Cash $1,200
- Owner investing capital: Dr. Cash $20,000 Cr. Owner's Capital $20,000
Journal entries are the first step in the accounting cycle and provide an audit trail for all transactions. Proper use of journal entries is crucial for accurate bookkeeping and financial reporting.
More complex journal entries
Adjusting entries
These are journal entries made at the end of an accounting period to account for expenses/revenues that have been incurred but not yet recorded. Some examples:
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Dr. Insurance Expense $2,000
Cr. Prepaid Insurance $2,000
(Adjusting entry to record insurance premiums used up)
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Dr. Depreciation Expense $5,000
Cr. Accumulated Depreciation $5,000
(Adjusting entry to record depreciation on fixed assets)
Accrued revenue/expenses
When revenues are earned but not yet received in cash, or expenses are incurred but not yet paid.
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Dr. Accounts Receivable $8,000
Cr. Service Revenue $8,000
(Accruing revenue earned but not yet received)
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Dr. Salaries Expense $10,000
Cr. Salaries Payable $10,000
(Accruing salaries expense incurred but not paid)
Closing entries
At the end of an accounting cycle, temporary accounts like revenues and expenses must be closed out to the owner's capital account.
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Dr. Revenue $75,000
Cr. Income Summary $75,000
(Closing revenue to income summary)
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Dr. Income Summary $55,000
Cr. Owner's Capital $55,000
(Transferring net income to owner's capital)
Opening balance entries
At the start of a new accounting period, companies make opening balance entries to carry over account balances from the previous period. This allows them to pick up where they left off.
For example, at the start of 2024, a company would make entries like:
Dr. Cash $25,000
Dr. Accounts Receivable $18,000
Dr. Supplies $3,500Dr. Equipment $120,000
Dr. Accumulated Depreciation $35,000
Cr. Accounts Payable $22,000
Cr. Loans Payable $80,000
Cr. Owner's Capital $29,500
This brings forward the ending balances from 2023 into the 2024 accounts.
Carry forward entries
Similar to opening entries, carry forward entries are made at the end of one accounting period to set up beginning balances for the next period. So in essence, the carry forward entries close out one period and re-open accounts for the next period using the updated balances carried over from the previous period's ending balances.
Journal entries in foreign currency
đź’ˇ When a company conducts transactions in a foreign currency, it needs to record them at the current exchange rate between the company's functional currency (e.g. USD) and the foreign currency on the date of the transaction.
Here are some common examples:
Purchase of goods/services in foreign currency on credit
Dr. Purchases/Expenses XXX
Cr. Accounts Payable XXX (Convert foreign currency amount to functional currency using current exchange rate)
Sale of goods/services denominated in foreign currency
Dr. Accounts Receivable XXX
Cr. Sales Revenue XXX (Convert foreign currency amount to functional currency)
Receipt of payment from foreign customer
Dr. Cash XXX
Cr. Accounts Receivable XXX (Use exchange rate on receipt date)
Purchase of equipment/asset using foreign currency
Dr. Equipment/Asset XXX
Cr. Cash/Accounts Payable XXX (Capitalise at the exchange rate on transaction date)
Any differences between the recorded functional currency amount and the actual amount paid/received due to exchange rate fluctuations is recorded as a gain or loss on foreign exchange.
The key points are:
- Initially record using the exchange rate on the transaction date
- On settlement, use the exchange rate on that date which may be different
- Revalue unsettled amounts at period-end using the current rate (see Unrealised Gain and Losses)
This allows the foreign currency transactions to be properly translated and recorded in the company's functional currency.
