Journal Entries in Accounting: Definition & How to Guide - FloQast (2024)

Accounting

May 23, 2022 Michael Whitmire

Working with the former accountants now working at FloQast, we decided to take a look at some of the pillars of the accounting profession.

A journal entry records a business transaction in the accounting system for an organization. Journal entries form the building blocks of the double-entry accounting method that has been used for centuries to keep financial records. They make it possible to track what a business has used its resources for, and where those resources came from.

The double-entry accounting method requires every transaction to be recorded in at least two accounts. For example, when a business buys supplies with cash, that transaction will show up in the supplies account and the cash account. Before we get ahead of ourselves, let’s start with the basics.

What is a Journal Entry Used For?

In the age of automated accounting software, it can be easy to forget the role of the humble journal entry. In the day before all this automation, entries were made manually into journals, which may have been Excel sheets but at one point were actual physical books of paper (like a journal!)

Accounting journal entries are used to record financial transactions in the accounting system, and would be transferred from the journals and posted to the general ledger. While most of this process happens behind the scenes in modern accounting software, it’s important to know what’s going on and there are times when manual entries will need to be made to correct or adjust account balances at the end of an accounting period.

What to Include in a Journal Entry?

One important key to journal entries is that they need to contain enough information to clearly reflect the actual transaction. That way, instead of only having account balances, we can look back at journal entries to see what really happened and if anything was recorded incorrectly.

A journal entry has the following components:

• The date of the transaction
• The account name and number for each account impacted
• The credit and debit amount
• A reference number that serves as a unique identifier for the transaction
• A description of the transaction

What Are Debits and Credits?

Under the double-entry bookkeeping method, debits and credits in a journal entry must be equal. Journal entries must also be consistent with the general accounting equation which describes the balance sheet:

Assets = Liabilities + Owner’s Equity

Using this equation, debits are recorded on the left, and credits on the right. This means that debiting an account on the left side of the equation — an asset account — increases that account. Debiting an account on the right side of the equation — a liability or an equity account — will decrease the balance in that account.

A credit amount has the opposite effect. Crediting an asset account decreases the balance, while crediting a liability or equity account increases it. Over on the income statement, revenue accounts are increased by credits, and expense accounts are increased by debits.

The combination of the accounting equation and the actions of debiting or crediting an account means that the different categories of accounts will normally have either a debit balance or a credit balance. This chart shows how that works:

How Do You Create a Journal Entry?

Let’s walk through a couple of examples. On January 10, 2020, Sally ordered $238.87 worth of office supplies from OfficeMart. When the supplies are delivered, she also receives invoice number 4987 from OfficeMart. Payment on that invoice is due in 14 days.

Here’s the journal entry to record the receipt of the supplies and the related payable:

Reference number: 2396
Date: 1/10/2020
Office Supplies (account 6390) $238.87
Accounts Payable (account 2100) $238.87
To record payable for invoice 4987 from OfficeMart

Two weeks later, Sally pays the invoice:

Reference number: 2577
Date: 1/24/2020
Accounts Payable (account 2100) $238.87
Cash (account 1010) $238.87
To record payment on invoice 4987 from OfficeMart

On January 12, Sally completes a consulting project for Ace Design, Inc. and sends out invoice number 21095 for $2,560.00:

Reference number: 2401
Date: 1/12/20
Accounts Receivable (account 2100) $2,560.00
Revenue (account 4101) $2,560.00
To record invoice 21095 for Ace Design, Inc.

Two days later, she receives payment on that invoice:

Reference number: 2489
Date: 1/14/20
Cash (account 1010) $2,560.00
Accounts Receivable (account 2100) $2,560.00
To record payment on invoice 21095 from Ace Design, Inc.

Getting Data Into the General Ledger

For centuries, bookkeeping was done with paper and pen. Business transactions were recorded in specialized journals or ledgers. For example, sales would be recorded in a sales journal and payroll would be recorded in a payroll journal. A summary of those transactions was periodically posted to the correct general ledger account as part of the accounting cycle. Journal entry accounting was the only way to enter data into financial records.

But with accounting software, transactions like those above are automatically entered in the correct accounts as invoices are created, customer payments are processed and bills are paid. This means that accountants today make comparatively few journal entries. Accounting software also makes it possible for small business owners to do their own bookkeeping.

The few journal entries that still need to be made are mostly for accruals at the end of a period or to adjust to GAAP-basis accounting. Non-cash transactions like depreciation and amortization may also require journal entries.

In today’s accounting software, the specialty journals of yesteryear exist as modules in the software. For example, a payroll module allows employees to be paid and facilitates the preparation of payroll tax reports. However, these separate modules are largely invisible to users: all transactions will appear as if they were entered in the general ledger.

What Are the Main Types of Journal Entries?

Journal entries come in different flavors, depending on their format and function within the accounting cycle. They may be used to adjust or reverse another entry or account balance or may be used to directly enter information like depreciation or amortization that accumulates during the month. Here are a few examples of the different types and how they look:

Examples of Journal Entries

General journal entries are recorded directly in the general ledger, and not via a special module or automatically as invoices or cash receipts are processed. An example is an entry to record depreciation expense:

Reference number: 9902
Date: 12/31/20
Depreciation expense (account 6401) $10,500.00
Accumulated depreciation (account 1515) $10,500.00
To record annual depreciation expense

Compound journal entries record transactions that impact more than two accounts, and can be quite complex. Here’s a simple compound entry to record the purchase of machinery with a cash down payment and a bank loan:

Reference number:5432
Date: 4/10/20
Machinery (account 1510) $275,000
Cash (account 1010) $25,000.00
Bank loan (account (2358) $250,000.00
To record purchase of new machinery

Adjusting journal entries are generally used to allocate income or expenses to the correct period for GAAP-basis financial statements. When payroll periods don’t match the last day of the month, adjusting entries match the incurred expense to the correct period. For example, let’s say that $3,000 in payroll expense has been incurred through the end of December:

Reference number:5953
Date: 12/31/20
Payroll expense (account 6780) $3,000
Accrued payroll (account 2780) $3,000
To record accrued payroll for year-end

Reversing journal entries are used to reverse one or more adjustments made in the immediately preceding period to accrue income or expenses. These can make the accounting simpler, while still keeping income or expenses in the correct periods. Here’s how the adjusting journal to accrue payroll expense would be reversed in the next year:

Reference number: 6003
Date: 1/1/21
Accrued payroll (account 2780) $3,000
Payroll expense (account 6780) $3,000
To reverse payroll accrued at 12/31/20

Tracking Journal Entries

When creating journal entries manually, you need to track which entries relate to which transactions as you post items to the general ledger. This is the only reliable way to find the source if something is off and you need to verify a number to ensure accurate financial reporting.

For tracking purposes, t-accounts are often helpful. They show the account in questions in the form of a T, with the account name in the header above the horizontal line of the T, and the vertical line dividing debit and credit columns to left and right. It’s a simple template that lets you visualize the transaction.

For example, if the loan is taken out for $10,000, the t-account for Notes Payable, would show a credit of $10,000 into the payable account, as well as a debit of $10,000 which would be marked Cash.

Each of these journal entries would then be manually posted to the general ledger. If you’re thinking that sounds like a lot of work and a lot of opportunities for errors, you’re right. That’s where technology comes in to make our jobs easier.

Automation Means Fewer Journal Entries

The examples here are pretty simple, but imagine how easy it would be to make mistakes if you had to rely on manual journal entry accounting to get data into the general ledger. Numbers get transposed, addition and subtraction errors creep in, plus finding those mistakes is nearly impossible.

Accountants and bookkeepers who fully leverage the automation in today’s accounting systems by using bank feeds and imports from various apps save time and improve accuracy. This speeds up the accounting cycle, and makes it possible to provide small business owners with accurate and complete financial statements in almost real time.

And here at FloQast, we’re always in favor of automation that helps accountants get their work done faster and more accurately!