An change in capital stock is the result of a business transaction, and all business transactions are recorded based on the rules of debit and credit. The accounting term of debit and credit does not always mean that a debit is to subtract and a credit is to add. Depending on the transaction and the account, a debit and credit can be either an increase or decrease to the account. An account is labeled as either a debit account or credit account based on its business nature, which helps determine whether a transactional increase or decrease to an account is a debit or credit.
Debit vs. Credit
In accounting, a debit may represent an increase of value to certain accounts but a decrease of value to other accounts. For example, an increase an asset account is a debit and a decrease in a liability or equity account is also a debit. On the other hand, a credit may also represent an increase of value to certain accounts but a decrease of value to other accounts. For example, an increase in a liability or equity account is a credit and a decrease in an asset account is also a credit.
In accounting, accounts are classified into five basic categories: asset accounts, liability accounts, equity accounts, revenue accounts and expense accounts. Based on the implied meaning of debit and credit, that is, a debit means the use of money and a credit means the source of money, all the asset accounts and expense accounts are labeled as debit accounts, indicating assets and expenses are money uses, and all the liability accounts, equity accounts and revenue accounts are labeled as credit accounts, indicating liabilities, equity and revenue are money sources. Capital stock is a main equity account and thus a credit account.
Accounting rules arbitrarily place all debit accounts on the left side and credit accounts on the right side in the layout of both the balance sheet and journal entries used to record each transaction in a pair of debit and credit accounts. Every transaction involves a change of value in two accounts. For example, an increase in capital stock results in also an increase in the cash account, a special asset account. The practical rule for identifying whether a transaction is a debit or credit to a particular account is always to record a debit for an increase in a debit account and a credit for an increase in a credit account, and to record a credit for a decrease in a debit account and a debit for a decrease in a credit account.
Capital stock may referred to either common stock or preferred stock. Accounting often records capital stock in two separate accounts to distinguish the par value of a stock from any additional capital paid in by investors. First, identify that capital stock is an equity account and also classified as an credit account. Then, find out what transaction is involved, which is an increase in capital stock. Lastly, apply the accounting rule of debit and credit. Since there is an increase in a credit account of the capital stock, the accounting should record a credit to the capital-stock account. Thus, an increase in capital stock is a credit.