Journal entries with examples

What a journal entry is

A journal entry is the formal record of one business transaction in the books, listing the date, the accounts debited and credited, equal debit and credit amounts, and a short explanation. It matters because the journal is the first place a transaction enters the accounting system: every ledger balance, trial balance and financial statement is built from journal entries, so an error here flows through to everything else.

A complete entry has six parts: the date; the account or accounts debited, written first; the account or accounts credited, written second and traditionally indented; the amounts, with debits equal to credits; a narration explaining what happened; and a reference to the source document, such as an invoice or bank statement line. An entry with more than two lines is called a compound entry. Most real entries are compound, because tax, discounts or several expense types usually travel together.

A four-question method and the business in this example

Before writing any entry, ask four questions. What did the business receive, and what did it give up? Which accounts describe those two things? Is each account increasing or decreasing? Given the account type, is that a debit or a credit? If you are unsure of the last step, see our guide on debits and credits explained.

The example follows Alder Home Goods, a shop selling kitchenware in Graz, Austria, owned by Clara Weber as a sole trader. It starts trading on 1 March. Austria's standard VAT rate of 20 percent applies to its purchases and sales. Inventory is recorded on the perpetual system, meaning every purchase goes into an inventory account and every sale moves its cost out to cost of goods sold at once. All amounts are in euros, and payroll figures are round illustrative numbers rather than actual Austrian rates.

VAT charged by suppliers is recorded in an input VAT account (an asset, because it can normally be reclaimed) and VAT charged to customers in an output VAT account (a liability owed to the tax office). Neither is income or expense for a VAT-registered business. Our guide on VAT accounting entries works through more VAT postings, including the quarterly settlement.

Week 1: financing and setting up the shop

The first entries bring money into the business and turn some of it into the assets the shop needs. None of them affects profit: money from an owner or a bank is financing, and buying equipment or paying rent in advance swaps one asset for another.

• 1. 1 March, Clara pays in her capital: Dr Bank 50,000 / Cr Owner's capital 50,000. Narration: capital introduced by owner.
• 2. 1 March, a bank loan is received: Dr Bank 30,000 / Cr Bank loan 30,000. Narration: five-year loan drawn down.
• 3. 2 March, rent for March, April and May is paid in advance, with no VAT charged under this lease: Dr Prepaid rent 6,000 / Cr Bank 6,000. The rent is an asset until each month is used.
• 4. 3 March, shelving and a till system are bought for cash: Dr Equipment 12,000 / Dr Input VAT 2,400 / Cr Bank 14,400. The VAT is reclaimable, so it is not part of the equipment's cost.

Buying stock: credit and cash purchases and a return

Purchases of goods for resale go to inventory, not to an expense, because under the perpetual system the cost only becomes an expense when the goods are sold. A purchase return reverses part of the original entry, including its VAT, and is usually supported by a credit note from the supplier or a debit note issued by the buyer.

• 5. 4 March, stock is bought on 30-day credit: Dr Inventory 20,000 / Dr Input VAT 4,000 / Cr Accounts payable 24,000.
• 6. 5 March, a smaller order is paid immediately: Dr Inventory 5,000 / Dr Input VAT 1,000 / Cr Bank 6,000.
• 7. 7 March, damaged goods from entry 5 are returned and the supplier issues a credit note: Dr Accounts payable 1,200 / Cr Inventory 1,000 / Cr Input VAT 200. The supplier balance falls to 22,800.

Selling: credit and cash sales and a customer return

Each sale on the perpetual system needs two entries: one at selling price for the revenue and VAT, and one at cost to move goods from inventory to cost of goods sold. A customer return reverses both halves, as long as the goods can be resold. Sales returns are commonly kept in their own contra-revenue account so that managers can see how much is coming back.

• 8. 10 March, a restaurant buys on credit: Dr Accounts receivable 18,000 / Cr Sales revenue 15,000 / Cr Output VAT 3,000.
• 9. 10 March, cost of those goods: Dr Cost of goods sold 9,000 / Cr Inventory 9,000.
• 10. 12 March, walk-in customers pay by card: Dr Bank 7,200 / Cr Sales revenue 6,000 / Cr Output VAT 1,200.
• 11. 12 March, cost of those goods: Dr Cost of goods sold 3,600 / Cr Inventory 3,600.
• 12. 14 March, the restaurant returns goods sold at 1,000 plus VAT, and a credit note is issued: Dr Sales returns 1,000 / Dr Output VAT 200 / Cr Accounts receivable 1,200.
• 13. 14 March, the returned goods, which cost 600, go back on the shelf: Dr Inventory 600 / Cr Cost of goods sold 600.

Settling balances: receipts, payments, loan and bills

Receipts and payments on account never touch revenue or expenses, because the income or cost was recognised when the invoice was recorded. They simply move a balance between bank and a receivable or payable. A loan instalment is different: it combines a repayment of principal, which reduces the liability, with interest, which is an expense.

• 14. 18 March, the restaurant pays part of its balance: Dr Bank 10,000 / Cr Accounts receivable 10,000. It still owes 6,800.
• 15. 20 March, part of the supplier balance is paid: Dr Accounts payable 15,000 / Cr Bank 15,000.
• 16. 28 March, first loan instalment: Dr Bank loan 1,000 / Dr Interest expense 150 / Cr Bank 1,150.
• 17. 29 March, the electricity bill for March arrives, payable in April: Dr Utilities expense 400 / Dr Input VAT 80 / Cr Accounts payable 480.
• 18. 31 March, the bank deducts its monthly fee, which is exempt from VAT: Dr Bank charges 25 / Cr Bank 25.

Payroll and owner drawings

Payroll needs two entries. The first records gross wages as the expense, the net pay that leaves the bank, and the tax and social contributions withheld from employees, which the business now owes to the authorities. The second records the employer's own contributions, an extra cost on top of gross pay. Owner drawings are different: Clara is not an employee of her own sole-trader business, so money she takes out reduces equity and is never a wage expense.

• 19. 25 March, staff are paid gross wages of 8,000, with 2,000 of income tax and employee social insurance withheld: Dr Wages expense 8,000 / Cr Bank 6,000 / Cr Payroll liabilities 2,000.
• 20. 25 March, employer social contributions of 1,600 are due: Dr Employer social contributions 1,600 / Cr Payroll liabilities 1,600. Payroll liabilities now total 3,600, to be paid in April.
• 21. 30 March, Clara withdraws money for personal use: Dr Drawings 2,000 / Cr Bank 2,000.

Month-end adjusting entries

On 31 March four adjusting entries bring the books up to date. They record costs and losses that belong to March but were not triggered by any invoice or payment. Each touches one income statement account and one balance sheet account, and none of them touches the bank. Our guide on adjusting entries explains each type in depth.

Entry 25 uses an expected loss of 5 percent on the receivable balance of 6,800. The allowance reduces the receivable shown on the balance sheet without writing off any specific customer, who may still pay. Our guide on IFRS 9 expected credit losses shows how a provision matrix by age replaces a flat percentage, and the one on depreciation compares the methods behind entry 23.

• 22. One month of the prepaid rent is used: Dr Rent expense 2,000 / Cr Prepaid rent 2,000. Prepaid rent falls to 4,000 for April and May.
• 23. Equipment of 12,000 is depreciated straight line over five years with no residual value, 12,000 divided by 60 months: Dr Depreciation expense 200 / Cr Accumulated depreciation 200.
• 24. The accountant's fee for March work is estimated at 500, invoice not yet received: Dr Professional fees 500 / Cr Accruals 500.
• 25. An allowance for doubtful debts is set at 5 percent of receivables of 6,800: Dr Impairment loss on receivables 340 / Cr Allowance for doubtful debts 340.

Checking the month: trial balance, VAT and the equation

After posting all 25 entries, the trial balance totals EUR 116,920 on each side. Key balances are: bank 46,625; inventory 12,000; accounts receivable 6,800; prepaid rent 4,000; equipment 12,000; accounts payable 8,280; bank loan 29,000; payroll liabilities 3,600. Inventory can be proved independently: 20,000 plus 5,000 minus 1,000 returned, minus 9,000 and 3,600 sold, plus 600 returned by the customer, equals 12,000.

The VAT position is worth a separate look. Input VAT is 2,400 plus 4,000 plus 1,000 minus 200 plus 80, a total of 7,280. Output VAT is 3,000 plus 1,200 minus 200, a total of 4,000. Because set-up spending was heavy, the shop expects a refund of 3,280 on its VAT return. That refund is an asset, not income.

Net sales are 21,000 minus returns of 1,000, which is 20,000. Cost of goods sold is 9,000 plus 3,600 minus 600, which is 12,000, giving gross profit of 8,000 and a 40 percent gross margin. Expenses total 13,215 (wages 8,000, employer contributions 1,600, rent 2,000, professional fees 500, utilities 400, impairment 340, depreciation 200, interest 150, bank charges 25), so March shows a loss of 5,215, which is normal for an opening month.

Finally, the equation. Equity is capital 50,000 minus the loss 5,215 minus drawings 2,000, which is 42,785. Liabilities are 29,000 plus 8,280 plus 3,600 plus 500, a total of 41,380. Together they make 84,165. Assets are bank 46,625, inventory 12,000, receivables net of allowance 6,460, prepaid rent 4,000, equipment net of depreciation 11,800 and the VAT refund due 3,280, also 84,165.

Narrations, references and mistakes to avoid

A journal entry must make sense to someone who was not there, such as an auditor two years later. The narration should say what happened and why, and the reference should lead straight to the evidence. Good narrations name the counterparty and the period: accountant's fee for March, estimate, invoice expected April. Poor narrations say only adjustment or per client. Our guide on finding and correcting accounting errors shows how to fix each mistake below once it has been posted.

• Recording a purchase of goods for resale as an expense under a perpetual system, which leaves inventory understated.
• Including reclaimable VAT in the cost of an asset or expense, or crediting output VAT to revenue.
• Recording a customer receipt as a second sale instead of clearing the receivable.
• Posting the whole loan instalment to interest, or the whole of it to the loan.
• Recording owner drawings as wages in a sole-trader business.
• Forgetting the cost half of a sale or return, so gross profit is wrong while revenue looks right.
• Deleting a wrong entry after the period is closed instead of correcting it with a new, dated entry.

How Skyline Nexus ERP records these entries

In Skyline Nexus ERP most of the 25 entries above are created by the documents themselves once an administrator has switched on the relevant automatic posting settings. Final sales and sales returns, purchases and purchase returns, customer and supplier payments, expenses, processed payroll and asset depreciation each post a balanced journal in the background right after the document is saved. A sale, for example, debits accounts receivable, credits revenue by product category and credits the VAT output account, and a second pair debits cost of goods sold and credits inventory at the cost of the stock lot consumed. A sales return posts the reversing journal, including VAT and cost of goods sold.

Entries that no document triggers, such as the rent release, the fee accrual and the doubtful-debt allowance, are made as manual journals under Fiscal Authority, Journal Entries, New Journal Entry, with a journal date, reference, description and one line per account. Skyline Nexus refuses to save a journal whose debits and credits differ, and a posted journal is corrected by reversing it rather than deleting it; only drafts can be deleted. The step-by-step guides on recording a sale, a purchase and payroll show the screens involved, and our guide on how Skyline Nexus ERP works traces one sale from invoice to trial balance.

Related guides

Journal entries sit in the middle of the learning path: they use the rules from debits and credits and feed the rest of the accounting cycle.

• Debits and credits explained: the rules behind every line above.
• The accounting cycle: what happens to these entries after they are posted.
• Adjusting entries explained: entries 22 to 25 in depth, and the cost of forgetting each one.
• Inventory costing: how the cost figures in entries 9, 11 and 13 are worked out under FIFO or weighted average.
• How to cancel or correct a transaction: fixing an entry once it has been posted.
• The general ledger explained: where these entries land and how the ledger is reviewed each month.
• Petty cash accounting: small cash payments recorded with the imprest system.