Recording Income and Expenses

In a double entry system, two kinds of accounts must be created: some of type "Income" and others of type "Expense." (There tend to be a lot more different kinds of expenses than there are of incomes.) Income such as salary, wages, bank interest and stock dividends are then recorded as transfers from an income account to a bank (or, in general, some asset) account. Similarly, expenses are recorded as transfers from a credit card account (or, in general, a liability account).

Another way of describing the requirement for "double entry" is that when you receive an income, two things happen:

• You receive a sum of money, and must record that effect on your bank account.

• You have received an income, and must record that effect on an income account.

When, for instance, salary is deposited in a bank account, the bank account is debited, and the income account is credited, thus:

This may be readily extended to a greater number of "split" items thus:

There may be a whole lot more than two entries in the transaction, but the total sum of the Debits, $1,600.00, still equals the total sum of the credits, $1,600.00.

If, as with GnuCash, everything is forced onto one column, so that debits are represented by positive values, and credits are represented by negative values, the income/expense accounts do a slightly non-intuitive thing and you see incomes as negative values. That appears contrary to intuition, but is nonetheless necessary in order for the double-entry accounting rule to hold true.

Income and expense accounts are also special, in that their account totals do not directly appear on a balance sheet. A balance sheet shows "Net Worth": the sum of all assets minus all liabilities. Income and expenses are neither assets nor liabilities, and so do not appear on the balance sheet. What appears on the balance sheet is their effects on equity.

Another report, the "Profit and Loss" (P&L) report, analyzes income and expense. The total profit (or loss) is calculated as total income less total expenses. In a nicely symmetrical fashion, since assets and liabilities are neither income or expenses, they correspondingly do not appear on a P&L statement.

While these accounts may be somewhat "special", you do not need to do anything particularly special to use income and expense accounts. GnuCash handles the values automatically, so that if you record properly the effects of the transactions on your bank account or credit card, the income/expense side of the transaction should also be correctly handled.

Things only get "peculiar" when amounts are transferred between income and expense accounts. If you feel you need to make such a transfer, then you will need to learn the more sophisticated concepts behind "accounts payable" and "accounts receivable". Such transfers typically occur in businesses, when income and expenses may occur at a moment that is different from the moment when cash actually moved into or out of the business's bank accounts.

For instance, companies usually recognize income when the sale occurs. That might mean that you recognize a $10,000 sale at the moment you and the customer shake hands on the deal. Since the money hasn't actually come in, the sale has to be posted in another way. You must accrue a sale at the time of the handshake. To make the transaction balance, you add the $10,000 sale to Accounts Receivable, rather than adding something in to cash.

Insider Knowledge: When a sale is recognized and how its recorded is governed not only by accepted accounting principles, but also by local and national laws. In the United States, accepted accounting practices are determined by FASB, the Federal Accounting Standards Board.

(The documentiation should state that for more info, click to the a/r and a/p page).