In this article, we cover whether merchandise inventory is a debit or credit. We also share our simple 5-step process of accounting merchandise inventory. Read on to learn more.
In accounting, merchandise inventory is a debit when it is acquired or increases and a credit when it decreases or sells. The nature of the entry, whether debit or credit, hinges on the transaction context in double-entry accounting.
Example: When Elegant Apparel purchases $1,000 worth of new clothing for their store, they would debit their merchandise inventory account by $1,000 and credit their accounts payable or cash. Conversely, when they sell clothing costing $500, they would credit their merchandise inventory by $500 and debit their cost of goods sold.
Debit: In the context of asset accounts like Merchandise Inventory, a debit will typically increase the value of the account. When merchandise inventory is acquired or when there's an increase in the inventory, it is debited. For example, if a company buys more goods to stock up its warehouse, it would debit the Merchandise Inventory account to reflect the increase in assets.
Credit: On the other hand, when the inventory is sold or decreases for any reason (like obsolescence or theft), it is credited. A credit to an asset account, like Merchandise Inventory, usually signifies a decrease in its value. If a company sells some of its inventory to customers, the Merchandise Inventory account would be credited, showing a decrease in assets.
Use our 8-step process for determining whether merchandise inventory is a debit or credit to effectively manage your inventory. Simply follow the steps below:
Before anything else, you need to know the nature of the transaction. Is it a purchase, a sale, a return, or some other type of transaction?
Example: Alpha Electronics received a shipment of 100 new laptops. They need to account for this addition to their merchandise inventory.
Recognize that Merchandise Inventory is an asset account. In general, asset increases are debited and decreases are credited.
Example: At Beta Fashions, they know their clothing inventory is an asset. Any increase in the number of dresses they have represents an asset addition.
For Purchases: Are you buying more inventory? If yes, your inventory (an asset) is increasing.
For Sales: Are you selling inventory? If yes, your inventory is decreasing because you're giving it up for revenue.
For Returns or Adjustments: Is inventory being returned to you after a sale? This would increase your inventory. Are you returning inventory to a supplier? This would decrease your inventory.
Example: Gamma Motors recently sold five cars from their showroom. This sale means their inventory of cars has decreased.
If the inventory is increasing, it's a debit. If the inventory is decreasing, it's a credit.
Example: After a successful sale of kitchen appliances, Delta Appliances credited their Merchandise Inventory account. This is because the number of appliances they have on hand reduced.
For example, if you're purchasing inventory, not only does Merchandise Inventory increase (Debit), but an obligation might arise to pay for it, such as Accounts Payable (Credit). If selling on credit, while Merchandise Inventory decreases (Credit), Accounts Receivable might increase (Debit).
Example: Epsilon Toys bought toy sets on credit from their supplier. While their Merchandise Inventory account gets debited, they also recognize an obligation by crediting Accounts Payable.
Ensure that the total debits equal total credits, keeping the fundamental principle of double-entry accounting in mind.
Example: After selling a batch of novels, Zeta Books checks their accounting entries. They ensure that the total amount debited matches the total amount credited.
Make sure to document the reasoning behind your entries for transparency and future references. Record the transaction in the appropriate journal or accounting system.
Example: Eta Jewelers made a notable purchase of precious stones. They meticulously documented the transaction details and then recorded the transaction in their accounting system.
Periodically, especially at the end of accounting periods, reconcile your Merchandise Inventory ledger account with physical counts to ensure accuracy. Adjust for discrepancies as necessary.
Example: At the end of the month, Theta Watches conducts a physical count of their timepieces. They then reconcile this count with their ledger and adjust for any discrepancies.
Lunar Looms Textiles purchases 1,000 yards of fabric on credit from "Celestial Fabrics." Here’s how they applied our process for determining whether their merchandise inventory is a debit or credit:
Lunar Looms recognizes they've procured a large shipment of 1,000 yards of fabric. This transaction involves adding to their merchandise inventory.
The team at Lunar Looms knows that their fabric inventory is an asset. Thus, an increase or decrease in fabric amounts translates into an asset change.
In this case, Lunar Looms is buying more inventory. As a result, their fabric stock, an asset, is set to increase.
Since the fabric inventory is rising, Lunar Looms will debit their Merchandise Inventory account to reflect the addition of 1,000 yards.
While the Merchandise Inventory account of Lunar Looms gets debited due to the increase in fabric, they also owe money to Celestial Fabrics for the purchase. This obligation is reflected by crediting the Accounts Payable account.
Lunar Looms' accounting team reviews the transaction. They check to ensure that the debit to Merchandise Inventory matches the credit to Accounts Payable to maintain the balance in their books.
The accounting department of Lunar Looms documents the purchase details that note the supplier's name, fabric type, quantity, and credit terms. This transaction is then entered into their accounting system.
At the month's end, Lunar Looms carries out a physical count of their fabric inventory. They reconcile this count with their ledger to ensure accuracy and make adjustments if they find any discrepancies.
We hope you now have a better understanding of whether merchandise inventory is a debit or credit and how to determine whether your merchandise inventory is a debit or credit using our process.
