-This question was submitted by a user and answered by a volunteer of our choice.
Capital is credited in the books of accounts as it is a liability for the business.
To make the concept simpler, I would like to familiarize you with the Golden and Modern rules of accounting, which are designed to explain the debit and credit relationship.
Rules of Accounting
For the application of rules, we first need to determine the type of account in question. An account is said to be personal when it is related to firms, companies, individuals, etc. As I mentioned earlier, capital is a liability for the firm/company/business because it is obliged to repay its owner, hence, it is a personal account.
Golden Rules or The Traditional Rules
Firstly, we shall consider the golden rules of accounting for personal accounts to determine why capital a/c has a credit balance. The rule is as follows:
“Debit the receiver,
Credit the giver”
Example
Mr. A is a sole proprietor. The capital invested by him accounts for 1,00,000. The journal entries in his books of accounts are as follows:
| Cash a/c | Debit | 1,00,000 | Debit what comes into the business | |
| To Capital a/c | Credit | 1,00,000 | Credit the giver |
(being cash invested into the business in the form of capital)
Here we have credited the capital a/c as the business is liable to repay the invested amount to the proprietor in the form of profits.
Modern Rules
The modern rule is as follows:
| Type of account | Debit | Credit |
| Capital | Decrease | Increase |
Example
Mr. A commenced business with a capital of 5,00,00. The journal entry is as follows
| Cash a/c | Debit | 5,00,000 | Debit the increase in asset | |
| To Capital a/c | Credit | 5,00,000 | Credit the increase in capital/liability |
(being cash invested in the form of capital)
Hope this helps.
