A journal entry is a method used to enter an accounting transaction into the accounting records of a business. It is one of the key events in the accounting cycle that leads to the production of financial statements.
The basic concept behind a journal entry is that every transaction involves a change in at least two places in the accounting records, so the journal entry must generate at least two equal and offsetting entries. For example:
- When you record a supplier invoice, it increases both an expense account and the accounts payable (liability) account
- When you record a customer invoice, it increases both revenue and the accounts receivable (asset) account
- When you buy a fixed asset, it increases the fixed assets account and decreases the cash account
- When you pay employees, it increases the wage expense and reduces the cash account
The format of a journal entry is for the first column to contain the account name / number into which the entry is being made, the second column to contain the debit amount being entered, and the third column to contain the credit amount being entered. The account name / number of the account being credited is indented. It is also useful to include a unique journal entry identification number and the date of the entry, as well as a brief narrative description. If there are a large number of journal entries, you may also want to include an approval signature block, as well as a signature and date block for the person who enters the journal entry into the accounting software. The format of a basic journal entry is:
|Account name / number
| Account name / number
The basic structural rules of a journal entry are that there must be a minimum of two line items in the journal entry, and that the total amount you enter in the debit column equals the total amount that you enter in the credit column.
There are several best practices related to journal entries, which are:
- Always provide a complete narrative of why you have created the journal entry. Otherwise, someone reviewing the books at a later date will have no idea why the entry was created.
- Do not include too many line items. Whenever possible, see if you can reduce a complex journal entry into several simpler ones, thereby making it easier to understand.
- Use a journal entry template for recurring transactions, so that you avoid the risk of creating an incorrect entry.
- Use an automatically reversing journal entry for accruals whose impact is intended to be for a single accounting period. By doing so, you do not have to worry about manually reversing the entry in the next accounting period.
- Use a transaction module instead of a manual journal entry. If you can record a transaction with a standardized accounting module, such as the billing system or the accounts payable system, this is always better than doing so with a journal entry. A standardized module is pre-configured to collect and store a particular set of information, which you might otherwise be able to ignore with a manual journal entry.