3 Golden Rules of Accounting

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3 Golden Rules of Accounting

In today’s fast-paced world, with the growing need for efficient financial management, it has become crucial for businesses to understand the various accounting rules and principles.

This skill and knowledge is no longer limited to an accountant's roles and responsibilities, as financial statements are a prime aspect of any significant business decision. Whether you are an entrepreneur or an individual wanting to navigate your finances better, you must know the 3 golden rules of accounting, how they differ from modern rules of accounting, and how to apply them correctly.

Accounting is more than just spreadsheets and tracking transactions, and this is what we will discuss in this blog. Let us look at the 3 golden rules of accounting in detail and understand the benefits of these basic accounting rules for decision-making.

What are the Golden Rules of Accounting?

All things within a system function more effectively, and that is the prime goal behind the 3 golden rules of accounting. Both golden rules and modern rules of accounting help track and maintain financial transactions more efficiently.

When it comes to accounting, there are two primary components that you see most often - credit and debit. However, given the weightage of these two components, understanding how to account for them without the tedious bookkeeping procedures is necessary.

Thus, to simplify the accounting process of credit and debit, here are the 3 golden rules to follow and the account type they apply to.

Account Inclusions in Account Golden Rule
Personal Account Real person a/c - Rajesh, Sunita, etc. Credit the Giver,
Personal Account Artificial person a/c - Banks, hospitals, etc. Debit the Receiver
Personal Account Representative a/c - prepaid expenses, outstanding expenses, etc.
Real Account Tangible business assets - land, machinery, investments, etc. Credit what goes out,
Real Account Intangible business assets - trademarks, licences, patients, etc. Debit what comes in
Nominal Account All accounts related to income, expenses, gains, and losses Credit all Income,
Nominal Account e.g. sales account, salary account, electricity account, etc Debit all Expenses

Understanding 3 Golden Rules of Accounting with Examples

The 3 golden rules of accounting individually apply to one of the real, nominal, and personal accounts. These rules help distinguish between different account entries for a more systematic calculation. To understand this better, let us look at the 3 golden rules of accounting with examples below.

Credit the Giver and Debit the Receiver: Personal Accounts

You purchase supplies for your bakery business for ₹15,000 from company Y. To add this entry to your books, as per the golden rule of crediting the giver and debiting the receiver, this is how you will do it:

  • You will be required to debit your purchase account by ₹15,000 as you are the receiver.

  • On the other hand, you will simultaneously credit ₹15,000 for company Y, as they supplied the requirements, making them the giver.

Here is what it will look like:

Date Account Debit Credit
xx-xx-xxxx Purchase Account ₹15,000
Accounts Payable Account (company Y) ₹15,000

Debit what comes in - Credit what goes out: Real Accounts

You bought new machinery worth ₹50,000 for your bakery in cash. To add this entry to your books, as per the golden rule of debit what comes in, credit what goes out, this is how you will do it. Since you purchased the machinery in cash, you will credit ₹50,000 to your cash account as the money is withdrawn. On the other hand, as the machinery is coming into the business, you will debit the same ₹50,000 from the machinery/ equipment account.

Date Account Debit Credit
xx-xx-xxxx Machinery Account ₹50,000
Cash Account ₹50,000

Credit all Income and Debit all Expenses: Nominal Accounts

You paid the employees of your bakery a salary of a total of ₹1,00,000 for the month of January. To add this entry to your books, as per the golden rule of debit all expenses and credit all income, this is how you will do it. As the employee salaries account for an expense for the bakery, ₹1,00,000 will be debited from the company account. On the other hand, as salaries are credited to different employee accounts from the company, this income is credited to the employee salary account.

Date Account Debit Credit
xx-xx-xxxx Bakery Account ₹1,00,000
Employee Salary Account ₹1,00,000

Difference between 3 Golden Rules and Modern Rules of Accounting

When it comes to accounting today, there are two primary ways to go ahead with it.

The first is the application of the 3 golden rules of accounting, as explained above. The other is to implement the modern rules of accounting that revolve around not 3 but 6 different types of transaction categories for financial reporting.

To understand the difference between these rules, check out the table below:

Factors 3 Golden Rules Modern Rules
Purpose Focuses on the account type between real, nominal, and personal for credit and debit calculation. Focuses on the type of transaction - asset, capital, revenue, liability, withdrawal, and expense.
Key Focus Recording transactions. Preparing financial statements.
Scope It is a traditional approach that is used universally. It is an adaptive and evolved approach that provides detailed guidance and entry segregation.
Benefits Promotes transparency and consistency for financial recording, making it easier to draw comparisons with competitors. These rules are built on many accounting principles and thus help prepare accurate financial statements to support business performance.

Benefits of the 3 Golden Rules of Accounting

  • Accurate understanding and application of these golden rules in accounting can help with accurate business valuation. This will allow businesses to plan better and meet their future goals more efficiently.

  • With precise credit and debit entries using the golden rules, the preparation speed of important financial documents will be higher and more accurate. Examples of these documents include cash flow statements, profit and loss statements, etc.

  • The principles involved in the 3 golden rules of accounting are very straightforward and standardised. This ensures consistency in recordkeeping, with minimal risk of errors and gaps.

  • These rules also lay a strong foundation for businesses when it comes to accounting, ensuring smoother adoption of the modern rules of accounting as a combination when it comes to statement preparation.

  • Lastly, with accurate bookkeeping and proper differentiation between credit and debit values, businesses can benefit from effective decision-making for operational efficiency and expansion strategies.

Conclusion

Every business transaction today has two sides - credit or debit. Thus, understanding the 3 golden rules of accounting is necessary to adopt the various accounting principles step-by-step.

With the help of these rules, you will be able to record every financial transaction twice, one in credit and one in debit, ensuring reduced risks of errors and increased consistency and accuracy.

Therefore, to become well acquainted with the business language of accounting, one must know and remember how to apply these rules and principles for financial independence.

Role of a Health Insurance Policy

Similar to how the golden rules help you understand and navigate accounting principles with ease, it is crucial to secure your well-being with the right tools for a better future.

When you invest in your health using a health insurance policy, the debit value for premiums will most likely be less than the overall credit you get as coverage of financial safety. A health insurance plan is designed to provide you with ample financial support in times of unforeseen circumstances, securing your out-of-pocket expenses.

When you buy health insurance from Tata AIG, you get a wide range of benefits, including customisation flexibility, critical illness insurance cover, pre and post-hospitalisation expenses cover, room tariff cover, and much more. You can avail of cashless treatments at any hospital in India with our health insurance.

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Disclaimer / TnC

Your policy is subjected to terms and conditions & inclusions and exclusions mentioned in your policy wording. Please go through the documents carefully.

Related Articles

What are the 3 basic accounting principles?

What are the 3 basic accounting principles?

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The 3 basic accounting principles include the following -

  • The matching principle states that expenses must be matched with earned revenue to calculate a company’s profitability accurately.

  • Accrual accounting is when the revenue is only accounted for once it is credited to the main account rather than when it is received as cash or cheque payment. This helps with better accuracy when analysing a company's financial position.

  • The going concern principle is when the calculation of assets, liabilities and other costs are assumed for the foreseeable future under the pretext of continued operations for a said period.

Who introduced the 3 golden rules of accounting?

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Leonardo da Vinci and Fra Luca Pacioli introduced the 3 golden rules of accounting.

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