3 Golden Rules of Accounting with Types and Examples

Introduction

Accounting is a system of recording, classifying, and summarizing financial transactions of a business. To ensure accuracy and consistency, certain rules are followed in accounting. Among them, the 3 Golden Rules of Accounting are fundamental. These rules guide accountants on how to record transactions for different types of accounts. Understanding these rules helps in maintaining proper books of accounts, preparing financial statements, and ensuring transparency in business operations. In this article, we will explain the rules of accounting, types of accounts, the 3 golden rules with examples, their benefits, and who is required to follow these procedures.

Rules of Accounting

Accounting rules are the principles that guide how financial transactions should be recorded. These rules ensure that all transactions are systematically documented and classified. The main objectives of accounting rules are:

1. Accuracy: Ensuring every transaction is recorded correctly.

2. Consistency: Maintaining a uniform system for recording transactions.

3. Transparency: Providing a clear picture of the business’s financial position.

Accounting rules are essential for preparing financial statements, which include balance sheets, income statements, and cash flow statements. Without proper rules, it would be difficult to track income, expenses, assets, and liabilities.

The 3 Golden Rules of Accounting are derived from these basic accounting rules and are used for different types of accounts. They provide a simple guideline to decide what to debit and what to credit in a transaction.

Open Demat account -  Begin your investment journey now!

Kinds of Accounts

In accounting, all financial transactions are recorded in different types of accounts. The three main kinds of accounts are:

1. Personal Account

• Accounts related to individuals, companies, or organizations.

• Example: Accounts of Mr. Sharma, XYZ Ltd., or a customer account.

• Purpose: To record transactions involving persons or entities.

2. Real Account

• Accounts related to assets or properties.

• Example: Cash, Machinery, Furniture, Land, or Buildings.

• Purpose: To record transactions that involve tangible or intangible assets.

3. Nominal Account

• Accounts related to expenses, losses, incomes, and gains.

• Example: Rent, Salary, Interest Received, Commission Earned.

• Purpose: To record transactions related to profits and losses.

Understanding the type of account is essential because the golden rules of accounting are applied differently based on the account type.

Golden Rules of Accounting

The 3 Golden Rules of Accounting help in deciding which account to debit and which to credit during a transaction.

1. Personal Account

• Rule: Debit the receiver, Credit the giver.

• Example: Mr. Sharma gives cash of ₹5,000 to the business.

• • Debit: Cash Account (Business receives cash)

  • Credit: Mr. Sharma Account (Cash given by Mr. Sharma)

2. Real Account

• Rule: Debit what comes in, Credit what goes out.

• Example: Business purchases machinery worth ₹50,000.

• • Debit: Machinery Account (Machinery comes into business)

  • Credit: Cash Account (Cash goes out)

3. Nominal Account

• Rule: Debit all expenses and losses, Credit all incomes and gains.

• Example: Paid rent of ₹2,000.

• • Debit: Rent Account (Expense incurred)

  • Credit: Cash Account (Cash paid)

These rules provide a simple and systematic method to record transactions, ensuring accuracy in financial reporting.

Benefits of Accounting Procedures

Following proper accounting procedures offers several benefits:

1. Financial Clarity: Provides a clear picture of income, expenses, and financial position.

2. Decision Making: Helps business owners make informed financial decisions.

3. Legal Compliance: Ensures compliance with tax and legal regulations.

4. Tracking Expenses: Allows accurate tracking of costs, losses, and profits.

5. Error Prevention: Reduces errors in financial statements and reporting.

6. Audit Friendly: Facilitates audits and ensures transparency for stakeholders.

Proper accounting ensures that businesses can operate efficiently and plan for the future.

Who is Mandated to Follow the Books of Accounts?

According to Indian law, certain businesses and professionals are required to maintain books of accounts:

1. Companies: All private and public limited companies must maintain accounts.

2. Partnerships: Firms with a turnover exceeding the prescribed limit must keep proper records.

3. Individuals and Sole Proprietors: If income exceeds ₹2.5 lakh, accounts must be maintained for tax purposes.

4. Professionals: Doctors, lawyers, and other service providers maintaining taxable income above limits.

Maintaining accurate books of accounts ensures proper tax filing, auditing, and financial reporting.

Fundamentals of the Golden Rules of Accounting

The fundamentals of the golden rules are:

1. Classification of Accounts: Identify the type of account—personal, real, or nominal.

2. Application of Rules: Apply the relevant rule to debit and credit the accounts.

3. Consistency: Record transactions consistently to maintain accurate books.

4. Double Entry Principle: Every transaction has two sides—a debit and a credit.

5. Documentation: Maintain proper supporting documents like vouchers and invoices.

By following these fundamentals, businesses can ensure accuracy and transparency in all financial transactions.

Conclusion

The 3 Golden Rules of Accounting form the backbone of accounting procedures. By understanding the types of accounts and applying the rules correctly, businesses can maintain accurate financial records, avoid mistakes, and ensure proper tax compliance. Accounting is not just about recording transactions—it helps in decision-making, financial planning, and auditing. Whether you are a small business owner or a professional, understanding and following these golden rules ensures that your books of accounts are reliable and transparent.