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Accounting Equation Problems and Solutions

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Accounting is based on the principle of two-sided. In order to carry out business activities, the company needs funds; these funds must be given to the company by someone. The funds owned by the company are called assets .   Part of these assets is provided by the owner, total amount of funds contributed by him is called owner’s equity or capital. If the owner is the only one who contributed, then the equation A = O.E will be fair. (assets equal to capital).

However, the assets may be contributed by someone else who is not the owner. The debt of the enterprise for these assets is called liabilities. Therefore, now the equation will take the following form: A = L + O.E . (Assets equal equity plus liabilities). The left and right sides of the equation always coincide.   

Assets= Liabilities + Owner’s Equity

The equality of both parts of the equation is always maintained. For deep understanding of accounting equation, following are important accounting equation questions:

Habib Ullah Sadiq is wholesale trader; following transactions are record in Accounting Equation?

i.  Commence business with cash Rs. 200,000 and Land Rs. 50,000.

ii.  Bought merchandising for cash Rs. 80,000.

iii.  Cash sales of worth Rs. 25,000.

iv.  Bought goods on credit from Salman of worth Rs. 50,000.

v.  Sales on account to Ali Raza Rs. 12,000.

vi.  Purchase furniture of the value of Rs. 5,000 by cash.

vii.  Received cash form Ali Raza of Rs. 10,000.

viii.  Return defective furniture of worth Rs. 1,500.

xi.  Paid wages Rs. 1,000, Rent 2,000 and Electricity Bill Payable Rs. 1,500.

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>> Read Accounting Equation explanation.

Video Lecture: Accounting Equation Problems and Solutions

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Muhammad Faizan Abid had the following transactions. Use accounting equation to show their effect on his Assets, Liabilities and Capital?

a)  Invested Rs. 15,000 in cash.

b)  Purchased securities for cash Rs. 7,500.

c)  Purchased a home for Rs. 15,000: giving Rs. 5,000 in cash and the balance through loan account.

d)  Sold securities costing Rs. 1,000 for Rs. 1,500.

e)  Purchase an old car for Rs. 2,800 cash.

f)  Received cash as salary Rs. 3,600.

g)  Paid cash Rs.500 for loan and Rs. 300 for interest.

h)  Paid cash for expenses Rs. 300.

i)  Received cash for dividend on securities Rs.200.

>> Understand  Types of Accounts  for Accounting Equation Problems and Solutions .

Selected Transactions from Shah Transport Services began on June 1, 2016 by Zahid Shah as?

a.  Zahid Shah invested Rs. 600,000.

b.  Truck was Purchase by business for Rs. 430,000.

c.  Equipment purchased on credit for Rs. 9,000.

d.  A bill of Rs. 7,200 for transporting goods was sent to Mr. Ashraf Abbasi, a customer.

e.  Cash of Rs. 6,000 is received from the customer who was billed in d. 

f.  Received Rs. 22,300 is cash for transporting goods.

g.  A payment of Rs. 5,000 was made on the equipment purchased in c. 

h.  Paid expenses of different types for Rs. 1,700 in cash.

i.  Equipment of Rs. 1,200 was withdrawn from business for Zahid Shah’s personal use.

Required:  Arrange the Assets, Liabilities and Owner’s Equity accounts in an Accounting Equation, using the following account titles: Cash, Trucks, Equipment, Account Receivables, Account Payable and Owner’s Equity:

>> Further study  Golden Rules of Accounting .

Prove that the Accounting Equation is satisfied in all following transactions of Wajeeha Ejaz owner of business enterprises?

I.  Started business with cash value of Rs. 500,000.

II.  Rent paid in advance for a year Rs. 6,000.

III.  Purchased merchandising inventory for cash Rs. 80,000 and on account Rs. 20,000 from Mr. Tahir.

IV.  Purchased Marketable securities for cash Rs. 100,000.

V.  Cash Sales Rs. 30,000 (cost 20,000).

VI.  During the period rent expires Rs. 2,000.

VII.  Commission paid during the trading was Rs. 1,000.

VIII.  Received cash dividend Rs. 4,000 on marketable securities.

IX.  Paid to Rs. 19,500 to Mr. Tahir in full settlement.

X.  Withdrew inventory for personal purpose by owner of worth Rs. 6,000.

>> Practice  Journal Entry Problems and Solutions .

Show the effect of the following transactions upon the Accounting Equation?

      June 2017

>> Read Balance Sheet  for better understanding the Balance Sheet Equation .

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Accounting Workbook

Mukharji, A., & Hanif, M. (2003). Financial Accounting (Vol. 1). New Delhi: Tata McGraw-Hill Publishing Co.

Narayanswami, R. (2008). Financial Accounting: A Managerial Perspective. (3rd, Ed.) New Delhi: Prentice Hall of India.

Ramchandran, N., & Kakani, R. K. (2007). Financial Accounting for Management. (2nd, Ed.) New Delhi: Tata McGraw Hill.

21 Comments

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commenced business with cash 200,000. purchase building for cash 50000. Purchase machine on credit base 70000. purchase goods for cash 100000 and 30000 on credit base. sold goods 60000 on cash . he paid outstanding wages 10000. He sold good 10000 costing Rs 8000 for cash. He deposit 10000 cash into bank. He pay bills by cheque 5000. He withdraw goods for Rs 5000 for his personal use. Kindly Send me the solution of this questio.

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Home » Explanations » Introduction to financial accounting » Accounting equation

Accounting equation

Accounting equation describes that the total value of assets of a business entity is always equal to its liabilities plus owner’s equity. This equation is the foundation of modern double entry system of accounting being used by small proprietors to large multinational corporations. Other names used for this equation are balance sheet equation and fundamental or basic accounting equation.

Definition and explanation

We know that every business holds some properties known as assets. The claims to the assets owned by a business entity are primarily divided into two types – the claims of creditors and the claims of owner of the business. In accounting, the claims of creditors are referred to as liabilities and the claims of owner are referred to as owner’s equity.

Accounting equation is simply an expression of the relationship among assets, liabilities and owner’s equity in a business. The general form of this equation is presented below:

Assets = Liabilities + Owner’s Equity

Notice that the left hand side (also known as assets side) of the equation shows the resources owned by the business and the right hand side (also known as equity side) shows the sources of funds used to acquire these resources. All assets owned by a business are acquired with the funds supplied either by creditors or by owner(s). In other words, we can say that the value of assets in a business is always equal to the sum of the value of liabilities and owner’s equity. The total dollar amounts of two sides of accounting equation are always equal because they represent two different views of the same thing.

In accounting equation, the liabilities are normally placed before owner’s equity because the rights of creditors are always given a priority over the rights of owners. Because of this preference, the liabilities are sometime transposed to the left side which results in the following form of accounting equation:

Assets – Liabilities = Owner’s Equity

If dollar amounts of any two of the three elements are known, we can solve the equation to find the third one. For example, if a business owns total assets amounting to $400,000 and total liabilities amounting to $120,000, the owners equity must be equal to $280,000 as computed below:

Assets – Liabilities =  Owner’s Equity $400,000 – $120,000 = $280,000

Using the concept of accounting equation, compute missing figures from the following:

• Assets = $100,000, Liabilities = $40,000, Owner’s equity = ?
• Assets = ?, Liabilities = $20,000, Owner’s equity = $30,000
• Assets = $120,000, Liabilities = ?, Owner’s equity = $80,000
• Assets = ?, Liabilities + Owner’s equity = $300,000
• Owner’s equity = Assets – Liabilities = $100,000 – $40,000 = $60,000
• Assets = Liabilities + Owner’s equity = $20,000 + $30,000 = $50,000
• Liabilities = Assets – Owner’s equity = $120,000 – $80,000 = $40,000
• The basic accounting equation is: Assets = Liabilities + Owner’s equity. Therefore, If liabilities plus owner’s equity is equal to $300,000, then the total assets must also be equal to $300,000.

Impact of transactions on accounting equation

Valid financial transactions always result in a balanced accounting equation which is the fundamental characteristic of double entry accounting (i.e., every debit has a corresponding credit).

Every transaction impacts accounting equation in terms of dollar amounts but the equation as a whole always remains in balance. Any increase in one side is balanced either by a corresponding decrease in the same side or by a corresponding increase in the other side and any decrease is balanced either by a corresponding increase in the same side or by a corresponding decrease in the other side. For better explanation, consider the impact of twelve transactions included in the following example:

Mr. John started a T-shirts business to be known as “John T-shirts”. He performed following transactions during the first month of operations:

• Mr. John invested a capital of $15,000 into his business.
• Acquired a building for $5,000 cash for business use.
• Bought furniture for $1,500 cash for business use.
• Purchased T-shirts from a manufacturer for $3,000 cash.
• Sold T- shirts for $1,000 cash, the cost of those T-shirts were $700.
• Purchased T-shirts for $2,000 on credit.
• Sold T-shirts for $800 on credit, the cost of those shirts were $550.
• Paid $1,000 cash to his payables.
• Collected $800 cash from his receivables.
• The shirts costing $100 were stolen by someone.
• Mr. John paid $150 cash for telephone bill.
• Borrowed money amounting to $5,000 from City Bank for business purpose.

Required: Explain how each of the above transactions impacts the accounting equation of John T-shirts.

Transaction 1: The investment of capital by John is the first transaction of John T-shirts which creates very initial accounting equation of the business.  At this point, the cash is the only asset of business and owner has the sole claim to this asset. Therefore, the equation would look like the following:

Equation element(s) impacted as a result of transaction 1: “Assets” & “Owner’s equity”.

Transaction 2:  The second transaction is the purchase of building which brings two changes. First, it reduces cash by $5,000 and second, the building valuing $5,000 comes into the business. In other words, cash amounting to $5,000 is converted into building. The impact of this transaction on accounting equation is shown below:

Equation element(s) impacted as a result of transaction 2: “Assets”

Transaction 3: The impact of this transaction is similar to that of transaction number 2. Cash goes out of and furniture comes in to the business. On asset side, The reduction of $1,500 in cash is balanced by the addition of furniture with a value of $1,500.

Equation element(s) impacted as a result of transaction 3: “Assets”

Transaction 4: The impact of this transaction is similar to transactions 2 and 3. One asset (i.e, cash) goes out and another asset (i.e, inventory) comes in. The cash would decrease by $3,000 and at the same time the inventory valuing $3,000 would be recorded on the asset side.

Equation element(s) impacted as a result of transaction 4: “Assets”

Transaction 5: In this transaction, shirts costing $700 are sold for $1,000 cash. It increases cash by $1,000 and reduces inventory by $700. The difference of $300 is the profit of the business that would be added to the capital. The whole impact of this transaction on accounting equation is shown below:

Equation element(s) impacted as a result of transaction 5: “Assets” & “Owner’s equity”

Transaction 6: In this transaction, T-shirts costing $2,000 are purchased on credit. It increases inventory on asset side and creates a liability of $2,000 known as accounts payable (abbreviated as A/C P.A) on the equity side of the equation. Since it is a credit transaction, it has no impact on cash.

Equation element(s) impacted as a result of transaction 6: “Assets” & “liabilities”

Transaction 7: In this transaction, the business sells T-shirts costing $550 for $800 on credit. It reduces inventory by $550 and creates a new asset known as accounts receivable (abbreviated as A/C R.A) valuing $800. The difference of $250 is profit of the business and would be added to capital under the head owner’s equity.

Equation element(s) impacted as a result of transaction 7: “Assets” & “Owner’s equity”

Transaction 8: In this transaction, business pays cash amounting to $1,000 for a previous credit purchase. It will reduce cash and accounts payable liability both with $1,000.

Equation element(s) impacted as a result of transaction 8: “Assets” & “Liabilities”

Transaction 9:  In this transaction, the business collects cash amounting to $800 for a previous credit sale. On asset side, it increases cash by $800 and reduces accounts receivable by the same amount.

Equation element(s) impacted as a result of transaction 9: “Assets”

Transaction 10: The loss of shirts by theft reduces inventory on asset side and capital on equity side both by $100. All expenses and losses reduce owner’s equity or capital.

Equation element(s) impacted as a result of transaction 10: “Assets” & “Owner’s equity”

Transaction 11:  The payment of telephone and electricity bills are business expenses that reduce cash on asset side and capital on equity side both by $150.

Equation element(s) impacted as a result of transaction 11: “Assets” & “Owner’s equity”

Transaction 12: The loan is a liability because the John T-shirts will have to repay it to the City Bank. This transaction increases cash by $5,000 on asset side and creates a “bank loan” liability of $5,000 on equity side.

Equation element(s) impacted as a result of transaction 12: “Assets” & “Liabilities”

In above example, we have observed the impact of twelve different transactions on accounting equation. Notice that each transaction changes the dollar value of at least one of the basic elements of equation (i.e., assets, liabilities and owner’s equity) but the equation as a whole does not lose its balance.

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2.4: The Basic Accounting Equation

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An accounting transaction is a business activity or event that causes a measurable change in the accounting equation. An exchange of cash for merchandise is a transaction. Merely placing an order for goods is not a recordable transaction because no exchange has taken place. In the coming sections, you will learn more about the different kinds of financial statements accountants generate for businesses.

In the previous section we described specific types of accounts that business activities fall into, namely:

• Assets (what it owns)
• Liabilities (what it owes to others)
• Equity (the difference between assets and liabilities or what it owes to the owners)

These are the building blocks of the basic accounting equation. The accounting equation is:

ASSETS = LIABILITIES + EQUITY

For Example:

A sole proprietorship business owes $12,000 and you, the owner personally invested $100,000 of your own cash into the business. The assets owned by the business will then be calculated as:

$12,000 (what it owes) + $100,000 (what you invested) = $112,000 (what the company has in assets)

In a sole-proprietorship, equity is actually Owner’s Equity. If the business in question is a corporation, equity will be held by stockholders, which uses stockholder’s equity but the basic equation is the same:

A business owes $35,000 and stockholders (investors) have invested $115,000 by buying stock in the company. The assets owned by the business will then be calculated as:

$35, 000 (what it owes) + $115,000 (what stockholders invested) = $150,000 (what the company has in assets)

Since each transaction affecting a business entity must be recorded in the accounting records based on a detailed account (remember, file folders and the chart of accounts from the previous section), analyzing a transaction before actually recording it is an important part of financial accounting. An error in transaction analysis could result in incorrect financial statements.

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To further illustrate the analysis of transactions and their effects on the basic accounting equation, we will analyze the activities of Metro Courier, Inc., a fictitious corporation. Refer to the chart of accounts illustrated in the previous section.

1. Owners invested cash

Metro Courier, Inc., was organized as a corporation on January 1, the company issued shares (10,000 shares at $3 each) of common stock for $30,000 cash to Ron Chaney, his wife, and their son. The $30,000 cash was deposited in the new business account.

Transaction analysis:

• The new corporation received $30,000 cash in exchange for ownership in common stock (10,000 shares at $3 each).
• We want to increase the asset Cash and increase the equity Common Stock.

Let’s check the accounting equation: Assets $30,000 = Liabilities $0 + Equity $30,000

2. Purchased equipment for cash

Metro paid $ 5,500 cash for equipment (two computers).

• The new corporation purchased new asset (equipment) for $5,500 and paid cash.
• We want to increase the asset Equipment and decrease the asset Cash since we paid cash.

Let’s check the accounting equation: Assets $30,000 (Cash $24,500 + Equipment $5,500) = Liabilities $0 + Equity $30,000

3. Purchased truck for cash

Metro paid $ 8,500 cash for a truck.

• The new corporation purchased new asset (truck) for $8,500 and paid cash.
• We want to increase the asset Truck and decrease the asset cash for $8,500.

Let’s check the accounting equation: Assets $30,000 (Cash $16,000 + Equipment $5,500 + Truck $8,500) = Liabilities $0 + Equity $30,000

4. Purchased supplies on account.

Metro purchased supplies on account from Office Lux for $500.

• The new corporation purchased new asset (supplies) for $500 but will pay for them later.
• We want to increase the asset Supplies and increase what we owe with the liability Accounts Payable.

Let’s check the accounting equation: Assets $30,500 (Cash $16,000+ Supplies $500 + Equipment $5,500 + Truck $8,500) = Liabilities $500 + Equity $30,000

5. Making a payment to creditor.

Metro issued a check to Office Lux for $300 previously purchased supplies on account.

• The corporation paid $300 in cash and reduced what they owe to Office Lux.
• We want to decrease the liability Accounts Payable and decrease the asset cash since we are not buying new supplies but paying for a previous purchase.

Let’s check the accounting equation: Assets $30,200 (Cash $15,700 + Supplies $500 + Equipment $5,500 + Truck $8,500) = Liabilities $200 + Equity $30,000

6. Making a payment in advance.

Metro issued a check to Rent Commerce, Inc. for $1,800 to pay for office rent in advance for the months of February and March.

Transaction analysis (to save space we will look at the effects of each of the remaining transactions only):

• The corporation prepaid the rent for next two months making an advanced payment of $1,800 cash.
• We will increase an asset account called Prepaid Rent (since we are paying in advance of using the rent) and decrease the asset cash.

The only account balances that changed from transaction 5 are Cash and Prepaid Rent. All other account balances remain unchanged. The new accounting equation would be: Assets $30,200 (Cash $13,900 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500) = Liabilities $200 + Equity $30,000

7. Selling services for cash.

During the month of February, Metro Corporation earned a total of $50,000 in revenue from clients who paid cash.

• The corporation received $50,000 in cash for services provided to clients.
• We want to increase the asset Cash and increase the revenue account Service Revenue.

Wait a minute…the accounting equation is ASSETS = LIABILITIES + EQUITY and it does not have revenue or expenses…where do they fit in? Revenue – Expenses equals net income . Net Income is added to Equity at the end of the period. Assets $80,200 (Cash $63,900 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500)= Liabilities $200)+ Equity $80,000 (Common Stock $30,000 + Net Income $50,000). Note: This does not mean revenue and expenses are equity accounts!

8. Selling services on credit.

Metro Corporation earned a total of $10,000 in service revenue from clients who will pay in 30 days.

• Metro performed work and will receive the money in the future.
• We record this as an increase to the asset account Accounts Receivable and an increase to service revenue.

Remember, all other account balances remain the same. The only changes are the addition of Accounts Receivable and an increase in Revenue. Assets $90,200 (Cash $63,900 + Accounts Receivable $10,000 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500)= Liabilities $200 + Equity $90,000 (Common Stock $30,000 + Net Income $60,000).

9. Collecting accounts receivable.

Metro Corporation collected a total of $5,000 on account from clients who owned money for services previously billed.

• Metro received $5,000 from customers for work we have already billed (not any new work).
• We want to increase the asset Cash and decrease (what we will receive later from customers) the asset Accounts Receivable.

Assets $90,200 (Cash $68,900 + Accounts Receivable $5,000 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500)= Liabilities $200 + Equity $90,000 (Common Stock $30,000 + Net Income $60,000).

10. Paying office salaries.

Metro Corporation paid a total of $900 for office salaries.

• The corporation paid $900 to its employees.
• We will increase the expense account Salaries Expense and decrease the asset account Cash.

Remember, net income is calculated as Revenue – Expenses and is added to Equity. The new accounting equation would show: Assets $89,300 (Cash $68,000 + Accounts Receivable $5,000 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500)= Liabilities $200 + Equity $89,100 (Common Stock $30,000 + Net Income $59,100 from revenue of $60,000 – expenses $900).

11. Paying utility bill.

Metro Corporation paid a total of $1,200 for utility bill.

• The corporation paid $1,200 in cash for utilities.
• We will increase the expense account Utility Expense and decrease the asset Cash.

Click Transaction analysis to see the full chart with all transactions. The final accounting equation would be: Assets $88,100 (Cash $66,800 + Accounts Receivable $5,000 + Supplies $500 + Prepaid Rent $1,800 + Equipment $5,500 + Truck $8,500) = Liabilities $200 + Equity $87, 900 (Common Stock $30,000 + Net Income $57,900 from revenue of $60,000 – salary expense $900 – utility expense $1,200).

Answer the following questions about the accounting equation. Remember to rate your confidence to check your answer: Maybe? Probably. Definitely!

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• Accounting Principles: A Business Perspective. Authored by : James Don Edwards, University of Georgia & Roger H. Hermanson, Georgia State University. Provided by : Endeavour International Corporation. Project : The Global Text Project . License : CC BY: Attribution
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• Accounting Equation

Home › Accounting › Accounting Basics › Accounting Equation

• What is the Accounting Equation?

Basic Accounting Equation Formula

Liabilities, how to use the accounting equation.

The accounting equation, also called the basic accounting equation, forms the foundation for all accounting systems. In fact, the entire double entry accounting concept is based on the basic accounting equation. This simple equation illustrates two facts about a company: what it owns and what it owes.

The accounting equation equates a company’s assets to its liabilities and equity. This shows all company assets are acquired by either debt or equity financing. For example, when a company is started, its assets are first purchased with either cash the company received from loans or cash the company received from investors. Thus, all of the company’s assets stem from either creditors or investors i.e. liabilities and equity.

Here is the basic accounting equation.

As you can see, assets equal the sum of liabilities and owner’s equity. This makes sense when you think about it because liabilities and equity are essentially just sources of funding for companies to purchase assets.

The equation is generally written with liabilities appearing before owner’s equity because creditors usually have to be repaid before investors in a bankruptcy. In this sense, the liabilities are considered more current than the equity. This is consistent with financial reporting where current assets and liabilities are always reported before long-term assets and liabilities.

This equation holds true for all business activities and transactions. Assets will always equal liabilities and owner’s equity. If assets increase, either liabilities or owner’s equity must increase to balance out the equation. The opposite is true if liabilities or equity increase.

Now that we have a basic understanding of the equation, let’s take a look at each accounting equation component starting with the assets.

Accounting Equation Components

An asset is a resource that is owned or controlled by the company to be used for future benefits. Some assets are tangible like cash while others are theoretical or intangible like goodwill or copyrights.

Another common asset is a receivable. This is a promise to be paid from another party. Receivables arise when a company provides a service or sells a product to someone on credit.

All of these assets are resources that a company can use for future benefits. Here are some common examples of assets:

• Accounts Receivable
• Prepaid Expense

A liability, in its simplest terms, is an amount of money owed to another person or organization. Said a different way, liabilities are creditors’ claims on company assets because this is the amount of assets creditors would own if the company liquidated.

A common form of liability is a payable. Payables are the opposite of receivables. When a company purchases goods or services from other companies on credit, a payable is recorded to show that the company promises to pay the other companies for their assets.

Here are some examples of some of the most common liabilities:

• Accounts payable
• Lines of Credit
• Personal Loans
• Officer Loans
• Unearned income

Equity represents the portion of company assets that shareholders or partners own. In other words, the shareholders or partners own the remainder of assets once all of the liabilities are paid off.

Owners can increase their ownership share by contributing money to the company or decrease equity by withdrawing company funds. Likewise, revenues increase equity while expenses decrease equity.

Here are some common equity accounts:

• Owner’s Capital
• Owner’s Withdrawals
• Common stock
• Paid-In Capital

Let’s take a look at the formation of a company to illustrate how the accounting equation works in a business situation.

Ted is an entrepreneur who wants to start a company selling speakers for car stereo systems. After saving up money for a year, Ted decides it is time to officially start his business. He forms Speakers, Inc. and contributes $100,000 to the company in exchange for all of its newly issued shares. This business transaction increases company cash and increases equity by the same amount.

After the company formation, Speakers, Inc. needs to buy some equipment for installing speakers, so it purchases $20,000 of installation equipment from a manufacturer for cash. In this case, Speakers, Inc. uses its cash to buy another asset, so the asset account is decreased from the disbursement of cash and increased by the addition of installation equipment.

After six months, Speakers, Inc. is growing rapidly and needs to find a new place of business. Ted decides it makes the most financial sense for Speakers, Inc. to buy a building. Since Speakers, Inc. doesn’t have $500,000 in cash to pay for a building, it must take out a loan. Speakers, Inc. purchases a $500,000 building by paying $100,000 in cash and taking out a $400,000 mortgage. This business transaction decreases assets by the $100,000 of cash disbursed, increases assets by the new $500,000 building, and increases liabilities by the new $400,000 mortgage.

As you can see, all of these transactions always balance out the accounting equation. This is one of the fundamental rules of accounting. The accounting equation can never be out of balance. Assets will always equal liabilities and owner’s equity.

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Shaun Conrad is a Certified Public Accountant and CPA exam expert with a passion for teaching. After almost a decade of experience in public accounting, he created MyAccountingCourse.com to help people learn accounting & finance, pass the CPA exam, and start their career.

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What Is the Accounting Equation, and How Do You Calculate It?

What Is the Accounting Equation?

The accounting equation states that a company’s total assets are equal to the sum of its liabilities and its shareholders’ equity .

This straightforward relationship between assets, liabilities, and equity is considered to be the foundation of the double-entry accounting system. The accounting equation ensures that the balance sheet remains balanced. That is, each entry made on the debit side has a corresponding entry (or coverage) on the credit side.

The accounting equation is also called the basic accounting equation or the balance sheet equation.

Key Takeaways

• The accounting equation is considered to be the foundation of the double-entry accounting system.
• The accounting equation shows on a company’s balance sheet that a company’s total assets are equal to the sum of the company’s liabilities and shareholders’ equity.
• Assets represent the valuable resources controlled by a company. The liabilities represent its obligations.
• Both liabilities and shareholders’ equity represent how the assets of a company are financed.
• Financing through debt shows as a liability, while financing through issuing equity shares appears in shareholders’ equity.

Daniel Fishel / Investopedia

What Are the Key Components in the Accounting Equation?

The financial position of any business, large or small, is based on two key components of the balance sheet : assets and liabilities. Owners’ equity, or shareholders’ equity, is the third section of the balance sheet.

The accounting equation is a representation of how these three important components are associated with each other.

Assets represent the valuable resources controlled by a company, while liabilities represent its obligations. Both liabilities and shareholders’ equity represent how the assets of a company are financed. If it’s financed through debt, it’ll show as a liability, but if it’s financed through issuing equity shares to investors, it’ll show in shareholders’ equity.

The accounting equation helps to assess whether the business transactions carried out by the company are being accurately reflected in its books and accounts. Below are examples of items listed on the balance sheet.

Assets include cash and cash equivalents  or liquid assets, which may include Treasury bills and certificates of deposit (CDs).

Accounts receivable  list the amounts of money owed to the company by its customers for the sale of its products. Inventory is also considered an asset.

The major and often largest value assets of most companies are that company’s machinery, buildings, and property. These are fixed assets that are usually held for many years.

Liabilities

Liabilities are debts that a company owes and costs that it needs to pay in order to keep the company running.

Debt is a liability, whether it is a long-term loan or a bill that is due to be paid.

Costs include rent, taxes, utilities, salaries, wages, and dividends  payable.

Shareholders’ Equity

The shareholders’ equity number is a company’s total assets minus its total liabilities.

It can be defined as the total number of dollars that a company would have left if it liquidated all of its assets and paid off all of its liabilities. This would then be distributed to the shareholders.

Retained earnings  are part of shareholders’ equity. This number is the sum of total earnings that were not paid to shareholders as dividends.

Think of retained earnings as savings, since it represents the total profits that have been saved and put aside (or “retained”) for future use.

Accounting Equation Formula and Calculation

Assets = ( Liabilities + Owner’s Equity ) \text{Assets}=(\text{Liabilities}+\text{Owner's Equity}) Assets = ( Liabilities + Owner’s Equity )

The balance sheet holds the elements that contribute to the accounting equation:

• Locate the company’s total assets on the balance sheet for the period.
• Total all liabilities, which should be a separate listing on the balance sheet.
• Locate total shareholders’ equity and add the number to total liabilities.
• Total assets will equal the sum of liabilities and total equity.

As an example, say leading retailer XYZ Corp. reported the following on its balance sheet for its latest full fiscal year :

• Total assets: $170 billion
• Total liabilities: $120 billion
• Total shareholders’ equity: $50 billion

If we calculate the right-hand side of the accounting equation (equity + liabilities), we arrive at ($50 billion + $120 billion) = $170 billion, which matches the value of the assets reported by the company.

What Is the Purpose of the Double-Entry System?

The accounting equation is a concise expression of the complex, expanded , and multi-item display of a balance sheet.

Essentially, the representation equates all uses of capital (assets) to all sources of capital, where debt capital leads to liabilities and equity capital leads to shareholders’ equity.

For a company keeping accurate accounts, every business transaction will be represented in at least two of its accounts. For instance, if a business takes a loan from a bank, the borrowed money will be reflected in its balance sheet as both an increase in the company’s assets and an increase in its loan liability.

If a business buys raw materials and pays in cash, it will result in an increase in the company’s inventory (an asset) while reducing cash capital (another asset). Because there are two or more accounts affected by every transaction carried out by a company, the accounting system is referred to as double-entry accounting.

The double-entry practice ensures that the accounting equation always remains balanced, meaning that the left-side value of the equation will always match the right-side value.

In other words, the total amount of all assets will always equal the sum of liabilities and shareholders’ equity.

The global adherence to the double-entry accounting system makes the account-keeping and -tallying processes more standardized and foolproof.

The accounting equation ensures that all entries in the books and records are vetted, and a verifiable relationship exists between each liability (or expense) and its corresponding source; or between each item of income (or asset) and its source.

Limits of the Accounting Equation

Although the balance sheet always balances out, the accounting equation can’t tell investors how well a company is performing. Investors must interpret the numbers and decide for themselves whether the company has too many or too few liabilities, not enough assets, or perhaps too many assets, or whether its financing is sufficient to ensure its long-term growth.

What Is a Real-World Example of the Accounting Equation?

Below is a portion of Exxon Mobil Corp.’s ( XOM ) balance sheet in millions as of Sept. 30, 2023:

• Total assets were $372,259
• Total liabilities were $164,726
• Total equity was $207,533

The accounting equation is calculated as follows:

• Accounting equation : $164,726 (total liabilities) + $207,533 (equity) = $372,259 (which equals the total assets for the period)

Why Is the Accounting Equation Important?

The accounting equation captures the relationship between the three components of a balance sheet: assets, liabilities, and equity. All else being equal, a company’s equity will increase when its assets increase, and vice versa. Adding liabilities will decrease equity, while reducing liabilities—such as by paying off debt—will increase equity. These basic concepts are essential to modern accounting methods.

What Are the Three Elements of the Accounting Equation?

The three elements of the accounting equation are assets, liabilities, and shareholders’ equity. The formula is straightforward: A company’s total assets are equal to its liabilities plus its shareholders’ equity. The double-entry bookkeeping system, which has been adopted globally, is designed to accurately reflect a company’s total assets.

What Is an Asset in the Accounting Equation?

An asset is anything with economic value that a company controls that can be used to benefit the business now or in the future. They include fixed assets, such as machinery and buildings. They may include financial assets, such as investments in stocks and bonds. They also may be intangible assets, like patents, trademarks, and goodwill.

What Is a Liability in the Accounting Equation?

A company’s liabilities include every debt it has incurred. These may include loans, accounts payable, mortgages, deferred revenues, bond issues, warranties, and accrued expenses.

What Is Shareholders’ Equity in the Accounting Equation?

Shareholders’ equity is the total value of the company expressed in dollars. Put another way, it is the amount that would remain if the company liquidated all of its assets and paid off all of its debts. The remainder is the shareholders’ equity, which would be returned to them.

The Bottom Line

The accounting equation is based on the premise that the sum of a company’s assets is equal to its total liabilities and shareholders’ equity. As a core concept in modern accounting, this provides the basis for keeping a company’s books balanced across a given accounting cycle.

ExxonMobil Investor Relations. “ Balance Sheet .”

• Accounting Explained With Brief History and Modern Job Requirements 1 of 51
• What Is the Accounting Equation, and How Do You Calculate It? 2 of 51
• What Is an Asset? Definition, Types, and Examples 3 of 51
• Liability: Definition, Types, Example, and Assets vs. Liabilities 4 of 51
• Equity Meaning: How It Works and How to Calculate It 5 of 51
• Revenue Definition, Formula, Calculation, and Examples 6 of 51
• Expense: Definition, Types, and How Expenses Are Recorded 7 of 51
• Current Assets vs. Noncurrent Assets: What's the Difference? 8 of 51
• What Is Accounting Theory in Financial Reporting? 9 of 51
• Accounting Principles Explained: How They Work, GAAP, IFRS 10 of 51
• Accounting Standard Definition: How It Works 11 of 51
• Accounting Convention: Definition, Methods, and Applications 12 of 51
• What Are Accounting Policies and How Are They Used? With Examples 13 of 51
• How Are Principles-Based and Rules-Based Accounting Different? 14 of 51
• What Are Accounting Methods? Definition, Types, and Example 15 of 51
• What Is Accrual Accounting, and How Does It Work? 16 of 51
• Cash Accounting Definition, Example & Limitations 17 of 51
• Accrual Accounting vs. Cash Basis Accounting: What's the Difference? 18 of 51
• Financial Accounting Standards Board (FASB): Definition and How It Works 19 of 51
• Generally Accepted Accounting Principles (GAAP): Definition, Standards and Rules 20 of 51
• What Are International Financial Reporting Standards (IFRS)? 21 of 51
• IFRS vs. GAAP: What's the Difference? 22 of 51
• How Does US Accounting Differ From International Accounting? 23 of 51
• Cash Flow Statement: What It Is and Examples 24 of 51
• Breaking Down The Balance Sheet 25 of 51
• Income Statement: How to Read and Use It 26 of 51
• What Does an Accountant Do? 27 of 51
• Financial Accounting Meaning, Principles, and Why It Matters 28 of 51
• How Does Financial Accounting Help Decision-Making? 29 of 51
• Corporate Finance Definition and Activities 30 of 51
• How Financial Accounting Differs From Managerial Accounting 31 of 51
• Cost Accounting: Definition and Types With Examples 32 of 51
• Certified Public Accountant: What the CPA Credential Means 33 of 51
• What Is a Chartered Accountant (CA) and What Do They Do? 34 of 51
• Accountant vs. Financial Planner: What's the Difference? 35 of 51
• Auditor: What It Is, 4 Types, and Qualifications 36 of 51
• Audit: What It Means in Finance and Accounting, and 3 Main Types 37 of 51
• Tax Accounting: Definition, Types, vs. Financial Accounting 38 of 51
• Forensic Accounting: What It Is, How It's Used 39 of 51
• Chart of Accounts (COA) Definition, How It Works, and Example 40 of 51
• What Is a Journal in Accounting, Investing, and Trading? 41 of 51
• Double Entry: What It Means in Accounting and How It's Used 42 of 51
• Debit: Definition and Relationship to Credit 43 of 51
• Credit: What It Is and How It Works 44 of 51
• Closing Entry 45 of 51
• What Is an Invoice? It's Parts and Why They Are Important 46 of 51
• 6 Components of an Accounting Information System (AIS) 47 of 51
• Inventory Accounting: Definition, How It Works, Advantages 48 of 51
• Last In, First Out (LIFO): The Inventory Cost Method Explained 49 of 51
• The FIFO Method: First In, First Out 50 of 51
• Average Cost Method: Definition and Formula with Example 51 of 51

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• 1 Basic accounting principles
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Accounting equation: More examples and explanation

Accounting equation.

As we've learned previously, the accounting equation is a mathematical expression that shows the relationship among the different elements of accounting, i.e. assets, liabilities, and capital (or "equity").

The basic accounting equation is: Assets = Liabilities + Capital

Sample Business Transactions

Here are more examples to further illustrate how the accounting equation works. Below are additional transactions following example 1, 2 and 3 in the previous lesson :

• Rendered services and received the full amount in cash, $500
• Rendered services on account, i.e., receivable from customer , $750
• Purchased office supplies on account, i.e., payable to supplier , $200
• Had some equipment repaired for $400, to be paid after 15 days
• Mr. Alex, the owner, withdrew $5,000 cash for personal use
• Paid one-third of the loan obtained in transaction #2
• Received customer payment from services in transaction #5

Now let's take a look at how each transaction affects the accounting equation:

Examples Explained

• The company received cash for services rendered. Cash increased thereby increasing assets. At the same time, capital is increased as a result of the income (Service Revenue) . As we've mentioned in the Accounting Elements lesson, income increases capital.
• The company rendered services on account. The services have been rendered, hence, already earned. Thus, the $750 worth of services rendered is considered income even if the amount has not yet been collected. Since the amount is still to be collected, it is recorded as Accounts Receivable , an asset account.
• Office supplies worth $200 were acquired. This increases the company's Office Supplies , part of the company's assets. The purchase results in an obligation to pay the supplier; thus a $200 increase in liability (Accounts Payable) .
• The company incurred in $400 Repairs Expense . Expenses decrease capital. The amount has not yet been paid. Thus, it results in an increase in total liabilities.
• The owner withdrew $5,000 cash. Cash is decreased thereby decreasing total assets. Withdrawals or drawings decrease capital.
• One-third of the $30,000 loan was paid. Therefore, Cash is decreased by $10,000 as a result of the payment. And, liabilities are decreased because part of the obligation has been settled.
• The $750 account in a previous transaction has been collected. Therefore, the Accounts Receivable account is decreased and Cash is increased.

Notice that every transaction results in an equal effect to assets and liabilities plus capital. The beginning balances are equal. The changes arising from the transactions are equal. Therefore, the ending balances would still be equal.

The balance of the total assets after considering all of the above transactions amounts to $36,450. It is equal to the combined balance of total liabilities of $20,600 and capital of $15,850 (a total of $36,450) .

Assets = Liabilities + Capital is a mathematical equation. Using simple transposition, the formula can be rewritten to get other versions of the equation.

• Liabilities = Assets - Capital
• Capital = Assets - Liabilities

The basic accounting equation is:

Assets = Liabilities + Capital

Because of the two-fold effect of business transactions, the equation always stays in balance.

More under Fundamental Accounting Concepts

• 1 Basic Accounting Principles
• 2 Elements of Accounting
• 3 Exercises on Elements of Accounting
• 4 Accounting Equation
• 5 More Examples of the Accounting Equation
• 6 Expanded Accounting Equation
• 7 Double-Entry Accounting
• 8 Accounting Cycle

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Accounting Equation

It is an essential accounting formula that shows a company’s assets, liabilities, and equity at a specific snapshot in time.

Matthew started his finance career working as an investment banking analyst for Falcon Capital Partners, a healthcare IT boutique, before moving on to  work for Raymond James  Financial, Inc in their specialty finance coverage group in Atlanta. Matthew then started in a role in corporate development at Babcock & Wilcox before moving to a corporate development associate role with Caesars Entertainment Corporation where he currently is. Matthew provides support to Caesars'  M&A  processes including evaluating inbound teasers/ CIMs  to identify possible acquisition targets, due diligence, constructing  financial models , corporate valuation, and interacting with potential acquisition targets.

Matthew has a Bachelor of Science in Accounting and Business Administration and a Bachelor of Arts in German from University of North Carolina.

• What Is The Accounting Equation?
• Equity Component Of The Accounting Equation

Economic Entity Assumption

• Classification Of Assets And Liabilities
• Accounting Transactions
• Examples Of Accounting Transactions

What Is the Accounting Equation?

The accounting equation, an essential accounting formula, shows a company’s assets, liabilities, and equity at a specific snapshot in time.

The accounting equation is also known as the balance sheet equation. Furthermore, the equation serves as the building block for the double-entry bookkeeping system in accounting.

The accounting equation is fundamental in analyzing business transactions, the first step in the  accounting cycle .

There are three primary financial statements , 

• the income statement (IS), 
• balance sheet (BS), and 
• cash flow statement ( CFS ).

While we mainly discuss only the BS in this article, the IS shows a company’s revenue and expenses and goes down to net income as the final line on the statement.

The CFS shows money going into (cash inflow) and out of (cash outflow) a business; furthermore, the CFS is separated into operating, investing, and financing activities. 

It’s called the Balance Sheet (BS) because  assets must equal liabilities plus shareholders’ equity .

There are no exceptions to this rule, except if you are ever dealing with the BS and do not have both sides as the same number, you know you did something wrong and should go back and check your numbers.

We can break down the accounting equation into two essential elements –

• what the business owns (its assets) and
• how it pays for those assets (the liabilities and equity portion of the accounting equation).

While there is no universal definition for liabilities and equity, liabilities are typically external claims (e.g., creditors and suppliers), and equity is internal claims (e.g., owners and shareholders of the business).

The formula is:

Assets = Liabilities + Equity

Key Takeaways

• Assets = Liabilities + Shareholders’ Equity
• A business's assets are resources, and liabilities are the creditors’ claims on total assets. Whereas shareholders’ equity is the owners’ claim on total assets
• Assets = Liabilities + Common Stock + Revenues - Expenses - Dividends, 
• So that you can walk someone through the fundamental transaction analysis of economic events in a company’s lifecycle
• Common stock is increased when the company issues new shares of stock in exchange for cash
• Revenue is affected as a result of business operations that aim to earn money for the corporation
• Expenses are the costs of generating revenue
• Dividends are (annual) payments the company will make to stockholders assuming that revenue exceeds expenses (net income). It has nothing better to do with all that cash sitting on hand.
• Remember, to get to net income, subtract the total amount of expenses from the total revenue earned for the period.

Equity Component of the Accounting Equation

Under the equity component of the formula, we can expand the equity component into common stock and retained earnings .

The common stock section is the money invested/paid-in into the company by investors that purchase stock. Under the retained earnings section, we can divide that component into “revenues - expenses - dividends.”

• Revenue  is the money that we generate from the direct sale of a product or delivery of a service.
• Expenses are the direct costs generated during generating revenue.
• Net income is a fancy accounting term for profit – the money the business gets to “take home” after everything is paid off.
• Dividends are the distribution of cash (i.e., cash dividend) or other assets (i.e., stock dividend) to shareholders of a company when the company decides that there is no better use for that residual income .

While dividends DO reduce retained earnings, dividends  are not  an expense for the company. 

Increases from investments by stockholders or increases in revenue will cause an increase in shareholders’ equity. It is crucial to note that the formula for net income is as follows: 

Net Income= Revenue - Expenses

You have likely heard of the word entity in your life in some shape or form. We think of economic entities as any organization or business in the financial world.

In some situations, accounts may use the terms 

• shareholders’ equity

about the same component of the accounting equation.

We use  owner’s equity in a sole proprietorship , a business with only one owner, and they are legally liable for anything on a personal level. 

Owners’ equity typically refers to partnerships (a business owned by two or more individuals).

Similar to a sole proprietorship, partnerships separate their accounting activities from their activities (hence owners’ equity).

However, each partner generally has unlimited personal liability for any kind of obligation for the business (for example, debts and accidents). Some common partnerships include doctor’s offices, boutique investment banks , and small legal firms.

Shareholders’ equity comes from corporations dividing their ownership into stock shares.

Shareholders, or owners of the stock, benefit from limited liability because they are not personally liable for any kind of debts or obligations the corporate entity may have as a business. 

Stockholders can transfer their ownership of shares to any other investor at any time.

While there is  no notable  difference in each term, if you wanted to be technical and saw it come up in a question, you should probably be familiar with the economic entity assumption.  

The economic entity assumption states that all of the financial activities associated with the business are kept separate from its owners. For example, the CEO of Apple , Tim Cook, must keep his living expenses separate from Apple’s operating expenses (OpEx).

Operating expenses (or OpEx) are any daily costs that a business or large corporation incurs. OpEx is commonly confused with CapEx – these two accounts are  NOT  the same!

Classification of Assets and Liabilities

In accounting, we have different classifications of assets and liabilities because we need to determine how we report them on the balance sheet. The first classification we should introduce is  current  vs.  non-current  assets or liabilities.

Current assets and liabilities can be converted into cash within one year. 

• Examples of current assets include cash, accounts receivable , and in many instances, inventory. 
• Examples of current liabilities typically include short-term debt and accounts payable .

Non-current assets or liabilities are those that cannot be converted easily into cash, typically within a year, that is.

Non-current assets could include accounts receivable greater than a year or PP&E.

Furthermore, another common way to classify assets is based on their “physical existence.”

Assets based on “physical existence” are tangible.

Tangible assets can be touched, felt, and seen. Some common examples of tangibles include property, plant and equipment (PP&E), and supplies found in the office.

An intangible asset is  an identifiable non-monetary asset without physical substance . Such an asset is identifiable when it is separable or arises from contractual or other legal rights.

For example,  goodwill , patents, copyrights, and trademarks are all common examples of intangibles : patents, copyrights, and trademarks best suit inventors, authors, and brands. 

Furthermore, patents protect the original designs/workings of the machine or invention, copyrights protect any form of art (i.e., music, literature, etc.), and trademarks protect any catchphrases, designs, symbols, or slogans. 

Assets are resources the company owns and can be used for future benefit. Liabilities are anything that the company owes to external parties, such as lenders and suppliers.

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Accounting Transactions 

Business transactions are economic events recorded by accountants based heavily on the accounting equation  (A = L + E).  Algebra can be used to find stockholders’ equity  (E = A - L).

There are two types of transactions, 

• internal, i.e., within a company, and 
• external, i.e., outside the company transactions.

Any event that does not affect the business's accounting equation is considered a non-business transaction. Responding to emails, hiring employees, or talking with clients are all examples of non-business transactions.

Under all circumstances, each transaction must have a dual effect on the accounting transaction. For instance, if an asset increases, there must be a corresponding decrease in another asset or an increase in a specific liability or stockholders’ equity item.

Examples of Accounting Transactions

Now that you are familiar with some basic concepts of the accounting equation and balance sheet let’s jump into some practice examples you can try for yourself.

1. Example Transaction #1: Investment of Cash by Stockholders

Nabil invests $10,000 cash in Apple in exchange for $10,000 of common stock.  

Solution:  The asset, cash, increases by $10,000, and shareholders’ equity increases by $10,000; therefore, it is a balanced equation. 

2. Example Transaction #2: Purchase of Equipment for Cash

Apple purchased equipment for its computer for $5,500 cash.

Solution:  The asset cash decreases by $5,500, and the asset equipment increases by $5,500 to compensate; therefore, It is a balanced equation.

3. Example Transaction #3: Purchase of Supplies on Credit

Apple buys packages for iPhones and semiconductors from suppliers such as TSMC for $1,500 on the account.

Solution: Supplies, an asset, increase by $1,600, and to compensate, accounts payable also increase by $1,600; therefore, 

4. Example Transaction #4: Services Performed for Cash

Apple receives $1,300 cash from Harvard for app development services that it has performed.

Solution:  Service revenue, a component of shareholders’ equity, increases by $1,300, and so does the asset cash; therefore, we’re in balance.

5. Example Transaction #5: Purchase of Advertising on Credit

Apple receives a bill for $290 from Google for advertising rights but asks to postpone the payment.

Solution:  Accounts Payable, a liability, increases by $290, but the shareholders’ equity item, advertising expense, decreases by $290; therefore, we’re in balance.

6. Example Transaction #6: Services Performed for Cash and Credit

Apple performs $3,500 of app development services for iPhone 13 users, receives $1,500 from customers, and bills the remaining balance on the account ($2,000).

Solution:  Service revenue, an item under retained earnings and stockholders’ equity, increases by $3,500, and to compensate, cash increases by $1,500, and accounts receivable also increase by $2,000; therefore, we’re in balance.

7. Example Transaction #7: Payment of Expenses 

Apple pays for rent ($600) and utilities ($200) expenses for a total of $800 in cash. 

Solution:   Rent expense , an item under retained earnings and stockholders’ equity, goes down by $600, and utility expense decreases by $200. To compensate, cash is reduced by $800; therefore, we’re in balance.

8. Example Transaction #8: Payment of Accounts Payable 

Apple pays the $290 in cash to Google that it previously had on account in transaction #5.

Solution:  Cash, an asset, goes down by $290, and to compensate, so do the accounts payable, the liability; therefore, we’re in balance.

9. Example Transaction #9: Receipt of Cash on Account

Apple receives $600 from customers billed for annual iOS services.

Solution:  Cash, an asset, increases by $600, and to compensate, accounts receivable (another asset) decrease by $600; therefore, we’re in balance.

10. Example Transaction #10: Issue of Dividends

Apple pays a $1,300 cash dividend to shareholders.

Solution:  Cash, an asset, is decreased by $1,300, and dividends under stockholders’ equity go down by $1,300; therefore, we’re in balance.

It’s important to note that although dividends reduce retained earnings, they  are not expenses . Therefore, dividends are excluded when determining net income (revenue - expenses), just like stockholder investments (common and preferred).

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Accounting Equation Problems and Solutions with Examples

What is the Accounting Equation?

The Accounting Equation is based on the double entry accounting, which says that every transaction has two aspects, debit and credit, and for every debit there is equal and opposite credit. It helps to prepare a balance sheet, so it is also called the Balance Sheet Equation.

Accounting Equation Formula

We already know what the words “Asset” and “Liability” mean from the previous lesson. Let’s quickly define this new term, “Owners Equity”.

What is Owner’s Equity?

We can define Owners Equity as “the amount of money that you (the owner) have invested in the business.”

Whenever you contribute any personal assets to your business your owner’s equity will increase. These contributions can be any asset, such as cash, vehicles or equipment. For example, if you put your car worth $5,000 into the business, your owner’s equity will increase by $5,000. If you invest $10,000 of your savings into the business, your owner’s equity will increase by $10,000.

Likewise, if you take money out of business, your owner’s equity will decrease. For example, you go into your store and take $100 from the cashier to buy yourself a shirt. Because you are taking $100 out of business, your owner’s equity will decrease by $100.

Let’s see if you can identify which of the following transactions will result in a change in owner’s equity:

Problems and Solutions: For each of these transactions we could simply have a “yes” and “no” button. I’ll write the correct answer below for you to code.

Transaction 1:

You invest $1,000 of your personal savings into the business.

Change in owner’s equity?

Incorrect Correct

In this scenario you are investing your own personal funds into the business. Any personal investment will increase your owner’s equity.

Transaction 2:

Your new oven breaks. You hire a repairman $50 to fix it.

Correct Incorrect

Again, you are introducing a personal asset into your business and using it as a business asset. Any investment of personal assets will increase your owner’s equity.

Transaction 3:

You purchase a computer for the business using the business bank account.

You are not making any personal investment here. You are using business funds to purchase a business asset. Therefore there was no new investment by you. Your owner’s equity will remain unchanged.

How does the Accounting Equation Works?

Every single transaction that occurs in your bakery will be recorded using the accounting equation .

Before we go any further, there are three very important things to remember about the equation:

• The left side is referred to as “The Debit Side”
• The right side is referred to as “The Credit Side”
• The equation must always be in balance.

The two sides of the equation:

The Debit Side: The left side of the equation is known as the debit side. As you can see, the left side of the equation consists of Assets.

The Credit Side: The right side of the equation is known as the credit side. As you can see, the right side of the equation consists of Liabilities and Owners Equity.

Remember, the equation must ALWAYS balance.

Note : Throughout this lesson, you will also notice that we refer to different “accounts”. An account can be thought of as a collection of related entries. For example, every entry that relates to our loan will be recorded in the “loan account”. Every transaction that relates to our oven will be recorded in the “oven account”. It Might be part of the reason this subject is called “ accounting ”!

Examples of the Accounting Equation

Let’s look at some examples to see the accounting/bookkeeping equation in action.

Transaction 1

After making cupcakes in your Grandma’s kitchen your whole life, you decide to open a bakery. You use your $10,000 in savings to start your business.

Now let’s look at how this fits into the accounting equation.

Accounts affected:

You have just put $10,000 into the bank, which is an asset. This goes on the debit side. Now that the debit side has gone up, we need to balance this with $10,000 on our credit side.

We know that our $10,000 investment represents an increase in owner’s equity, and owner’s equity will go on the credit side.

With these two entries, the equation is now balanced.

Let’s fit this into the accounting equation.

We started off with $0 = $0 + $0. Doesn’t get much easier than that!

Now it’s changed a little.

As you can see, we have +$10,000 on the left side (the debit side), and we have +$10,000 on the right side (the credit side). Because both sides went up by $10,000, we’re still in the balance. Phew!

Still don’t get it? Don’t worry, it’ll click soon enough. Let’s look at another example.

Transaction 2

You need an iPhone to take delivery calls from all your crazy customers. You buy one off eBay for $500.

Remember in the first example we put money into the bank? Well, this time we’ll be using the bank again, only now we’ll be spending money. That means our bank account, an asset, is going to decrease .

Now that we know the Debit side has decreased, we need to record the second side of the transaction that will keep the equation in balance.

We’re going to create a new asset account called iPhone, because we need to record the new phone as an asset . Remember, it cost $500, so the two sides of the transaction are:

BANK -$500 (Debit side decrease) iPhone+$500 (Debit side increase)

Our bank caused the debit side to decrease, but then our new phone caused it to increase. That means our debit side had no change in the end, and our equation still balances.

You may be wondering, why didn’t the credit side change in this example like it did in the previous example?

Remember, the credit side is only involved in transactions that relate to liabilities and owner’s equity. In this particular transaction, only assets were involved: we used an asset (bank) to purchase another asset (iPhone).

We saw above that owner’s equity only relates to investments made personally by the owner. In this example, we used the business bank account to purchase a business asset. Therefore the owner was not involved. If we had used the owner’s personal bank account to buy the iPhone, then our owner’s equity on the credit side would have increased.

Still not getting it? Let’s do a few more examples.

Accounting Equation Problems and Solutions

Have a go at working out the two sides of each transaction. Remember, it needs to balance!

Problem: It’s time to go oven shopping, but first, you need some cash. You visit Anne, the loan officer, and she gives you a loan of $10,000.

Drag & Drop the blocks into correct positions in the table

Transaction 4:

Problem: It’s your lucky day. You just won a lottery prize of $5,000. You decide to invest your $5,000 into the business.

Drag & Drop the blocks into correct positions in table

• Owner’s Equity

Transaction 5:

Problem: We don’t want Anne to get angry. You better pay back some of the loans. You decide to pay back $1,000.

Transaction 6:

Problem: You need a computer to start taking internet orders and also to watch funny Youtube videos after work. You purchase a computer for $1,500.

Transaction 7:

Problem: Your oven got stolen! Time to purchase the new Bakemaster X Series! It costs you $2,000

After recording these seven transactions, our accounts now look like this. We have all our assets listed on the debit side and all our liabilities and owner’s equity listed on the credit side.

Take a quick look back and see if you can follow how the numbers have changed.

Still in balance. Perfect!

In case you haven’t figured out how we got to these figures, we’ve broken it down step by step for you below.

Let’s use our Bank account as an example.

Our bank account started at $0. Then the following happened:

As you can see, we added all transactions that related to the bank to arrive at our ending balance of $20,000. This is the same approach we took for all the accounts.

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• Accounting Equation

An Accounting Equation is also called the Balance Sheet Equation. We all know that we record all the business transactions using the Dual Aspect concept. This means that each debit has an equal credit and vice-versa.

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There are two approaches to record the transactions in financial accounting. One is the Traditional approach or the British Approach and another is the Modern Approach or the American Approach. Under the Modern Approach , we do not debit and credit the accounts. Here, we use the Accounting Equation to debit or credit an account. Thus, it is also called the Accounting Equation Approach. Now let us study the Accounting Equation in detail.

This approach classifies the accounts as follows:

• Assets Accounts: Assets are the properties, possessions or economic resources of a business which help in business operations and in earning revenues. These are measurable in terms of money. However, assets of a firm may be tangible or intangible. Also, we can classify the assets as Fixed Assets and Current Assets. For example, land, building, furniture and fixtures, plant and machinery, vehicles, debtors, bills receivable, bank balance, cash, stock, etc.
• Liabilities Accounts: Liabilities are the amounts that an entity owes to the outsiders or the obligations or the debts payable by the entity. We can also classify the liabilities as Long-term and Current. For example, debentures, bank loans, creditors, bills payable, rent outstanding, short-term loans, bank overdraft, etc.
• Capital Accounts: Capital or Owner’s Equity is the money that the owner brings into the business. The owner can bring Capital in the form of cash or assets . It is an obligation of the business and the business has to pay back this amount to the owner as business is a separate entity from its owner. Therefore, we show the Capital on the liabilities side of the Balance Sheet. Also, we show Capital account after deducting the Drawings by the owner. Drawings are the amount of cash, goods or assets that the owner takes for personal use from the business. Also, the profits increase the Capital and losses decrease it.

The Accounting Equation is:

Assets = Liabilities + Capital (Owner’s Equity)

Capital = Assets – Liabilities

It is to be noted here that the Accounting Equation shall remain balanced every time. As we know that each transaction has a Dual aspect. Thus, each debit has an equal credit.

Solved Example on Accounting Equation

Analyze the following transactions under the Accounting Equation Approach.

• Commenced business with cash ₹500000
• Purchased goods ₹25000
• Paid salary ₹10000
• Sold goods costing ₹20000 at a profit of 25% on the cost
• Paid salary in advance ₹2000
• Introduced additional capital ₹10000
• Purchased computer ₹15000
• Deposited ₹50000 into the bank 

Analysis of transactions:

• It increases the Cash thus, add to cash. Also, it increases the Capital , hence add to Capital.
• Goods are purchased thus, cash is decreasing. While, goods are coming in thus, they are increasing. Therefore, deduct cash and add goods.
• Salary is paid therefore cash is decreasing. While salary is an expense. Thus, deduct cash and also deduct from Capital.
• Goods are going out thus, deduct them. Thus cash is coming in, add it. Also, add the profit to Capital.
• Salary is paid in advance which is a current asset. Deduct Cash is and add salary paid in advance.
• Cash and Capital both are increasing. Hence, add Cash and Capital.
• Cash is decreasing while the computer is increasing. Therefore, deduct cash and add to the computer.
• Cash is decreasing and bank balance is increasing. Therefore, deduct cash and add to the bank .

                              Summary of transactions using the Accounting Equation

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Accounting Equation Questions and Answers

by Kevin (North Carolina, USA)

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Difficulty Rating: Beginner Time limit: 10 minutes

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Home Accounting Accounting Equation – Definition, Formula and Examples

Accounting Equation – Definition, Formula and Examples

Tally Solutions | Updated on: February 14, 2023

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• Accounting Equation – Definition

Accounting Equations Rules

•   Accounting Equation Fundamentals
•   Types of Accounting Equation and Formulae correlation
•   Accounting Equation Examples

What is accounting equation?

The accounting equation summarizes the essential nature of double-entry system of accounting. Under which, the debit always equal to credit, and assets always equal to the sum of equities and liabilities. Accounting equation can be simply defined as a relationship between assets, liabilities and owner’s equity in the business.

The accounting equation connotes two equations that are basic and core to  accrual accounting  and double-entry accounting system.

The following are two basic rules of accounting equation that distinguishes the accrual system of accounting from  cash basis accounting , and single-entry system from the double-entry system:

• The first among them is the basic accounting equation which written as Assets = Liabilities + Equities.
• The second one is termed as ‘Expanded Accounting Equation’ which is a combination of the basic equation and secondary equation i.e. Debit = Credit.

It derives its status only from the accrual system of accounting and thereby, it does not apply in a cash-based, single-entry accounting system.

Accounting Equation Fundamentals

The balance sheet always balances - asset = liability + owner’s equities.

It is pertinent to note that the term basic accounting equation is another name for the ‘Balance Sheet Equation’. The reason balance sheet always balances is because of the following equation:

Assets = Liabilities + Owners Equities

The ingredients of this equation - Assets, Liabilities, and Owner's equities are the three major sections of the  Balance sheet . By using the above equation, the bookkeepers and accountants ensure that the "balance" always holds i.e., both sides of the equation are always equal.

Total debits always equal to total credits -Total Debits = Total Credits

The accounting equation represents an extension of the ‘Basic Equation’ to include another fundamental rule that applies to every accounting transaction when a double-entry system of bookkeeping is used by the businesses.

Debits = Credits

This Accounting Equation summarizes the following:

• Debit and Credit should be equal for every event that impacts accounts.
• Across any specified timespan, the sum of all debit entries must equal the total of all credit entries, meaning the same balance applies for every pair of ‘entries’ that follows a transaction.

This equation serves to provide an essential form of built-in error checking mechanism for accountants while preparing the financial statements.

Types of Accounting Equation and Formulae correlation

The entire  financial accounting  depends on the accounting equation which is also known as the ‘Balance Sheet Equation’. The following are the different types of basic accounting equation:

• Asset = Liability + Capital
• Liabilities= Assets - Capital
• Owners’ Equity (Capital) = Assets – Liabilities

Assets = Liabilities + Owner’s equity

This balance sheet equation tells you that all the assets owned by the business are either sponsored using the owners’ equity or the amount which company should owe others like suppliers or borrowings like Loans

Liabilities = Assets – Owner’s Equity

The difference of assets and owner’s investment into business is your liabilities which you owe others in the form of payables to suppliers, banks etc.

Owners’ Equity = Assets – Liabilities

This equation reveals the value of assets owned purely by owner equity.

While trying to do this correlation, we can note that incomes or gains will increase owner’s equity and expenses, or losses will reduce it.

Accounting Equation Examples

Let us understand the accounting equation with the help of an example.

Mr Ram, a sole proprietor has the following transactions in his books of accounts for the year 2019.

• Jan 1 Invested Capital of 20,000 Indonesian Rupiah.
• Jan 2 Purchased goods on credit from Das & Co. for 2,000 Indonesian Rupiah.
• Jan 4 Bought plat and machinery for 8,000 Indonesian Rupiah on cash.
• Jan 8 Purchased goods for 4,000 Indonesian Rupiah on cash.
• Jan 12 Sold goods for (cost of inventory 4,000 + profit 2,000) 6,000 Indonesian Rupiah on cash
• Jan 18 Paid to Das & Co. in cash 1,000 Indonesian Rupiah
• Jan 22 Received 300 Indonesian Rupiah from Mr Y (being a debtor)
• Jan 25 Paid salary of 6,000 Indonesian Rupiah
• Jan 30 Received interest of 5,000 Indonesian Rupiah
• Jan 31 Paid wages of 3,000 Indonesian Rupiah
• The effect of above transactions on Assets, liabilities and owner’s equity considering the accounting equation is as follows:

Amount ( in Indonesian Rupiah)

Extended Version of The Accounting Equation

The extended accounting equation is the following: Assets = Liabilities + Contributed Capital + Beginning Retained Earnings + Revenue - Expenses - Dividends

What Are The Limitations of The Accounting Equation?

Accounting equation comes with its own limitations. To begin with, it doesn’t provide an analysis of how the business is operating. Furthermore, it doesn't totally keep accounting mistakes from being made. In any event, when the balance sheet report adjusts itself, there is still a chance of a mistake that doesn't include the accounting equation.

What is the basic accounting equation formula?

The basic accounting equation formula is: Asset = Liabilities + Equity

What are the three accounting equations?

The three components of the accounting equation are assets, liabilities, and equity.

Read More on Accounting

Accounting Software , Accounting Principle , Accounting Methods , Accounting Rate of Return , Cash Accounting , Accrual Basis of Accounting , Financial Accounting , Cost Accounting , Golden Rules of Accounting , Accounting Standard , Cash Accounting vs Accrual Accounting , Cost vs Management Accounting

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Fundamental Accounting Equation - Problems and Solutions

Show that the accounting equation is satisfied after taking into consideration each of the following transactions in the books of Mr. N

• Started business with capital 1,00,000
• Bought furniture 25,000
• Bought goods for cash 20,000
• Bought goods from Ram on Credit 5,000
• Sold goods for cash for 15,000
• Sold goods to Shyam on credit 8,000
• Paid cash to Ram 4,000
• Received cash from Shyam 5,000
• Paid Cash into Bank 25,000
• Withdrawn from bank 10,000

Following are the accounting transactions relating to Mr. P's business. Use the accounting equation to show their effect on his assets, liabilities and capital.

• Commenced business with a Capital of 50,000
• Bought Machinery for cash 10,000
• Purchased goods for cash 15,000
• Purchased goods from A on credit 5,000
• Sold goods for cash 10,000
• Paid to A 2,000
• Sold goods to B on credit 3,000
• Paid into Bank 6,000
• Paid to A by cheque 1,000
• Received from B a cheque for 2,000

This solution differs from the first only in the way the data is presented. Data here is presented in the form of a mathematical equation while in the previous it is presented in the form of a statement.

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What Is Fundamental Accounting Equation – Examples And Solutions

Table of Contents

Accounting is a critical aspect of any business, regardless of size, fund, structure, and industry. The fundamental accounting equation, also known as the balance sheet equation, calculates the relationship between the assets, liabilities, and owner’s equity. The basic accounting equation evaluates the financial reports and learns about a company’s financial health. The equation is also the foundation of the double-entry accounting system. 

Accounting Equation Definition

The accounting equation is the base of the double-entry bookkeeping method, which most organizations use to ensure that the balance sheet always equals. The left side of the sheet representing the resources should match the right side, which is the source. Before we elaborate, let’s understand the definition of the accounting equation. 

The accounting equation defines the relationship between a company’s assets, liabilities, and owners equity. Assets owned are everything a business owns, while everything the business owes is liabilities. The owner’s equity is the owner’s share of the total assets. 

Considering the basic accounting equation principles, the left side column of the balance sheet (liabilities) should match the right side (assets). The company owner will be at his best if the assets balance with the liabilities. 

The financial accounting equation is double-entry, where the total debits match every transaction’s total credits. 

Elements in the Accounting Equation Formula

Three primary indicators are used to evaluate the financial position of a business, which can be summarized by using the formula given below:

 OR 

Example: 

Before we delve deeper into some more accounting equation problems, let’s understand the basic elements of the accounting equation: assets, liabilities, and owner’s equity. 

Assets are resources owned by businesses that are used for production and sales. The general examples of tangible assets include cash, inventory of product assets, accounts receivable, and material assets like customer supplies, office supplies, dishes, computer appliances, land, furniture, buildings, billing, and collection systems. And the intangible assets consist of copyrights, trademarks, and patents. 

The investors or lenders of the business have rights to the business assets. Let’s say a credit giver lends money to a business owner. The creditor has the legal and financial right to a portion of the assets until the debt is paid. 

Liabilities

Liabilities are what businesses owe to their lenders and other third parties. Creditors are entities a business owes money to, like employees, banks, government agencies, and more. Just as assets are classified as current assets and fixed assets, liabilities are also classified similarly. For example, current liabilities are employee payroll, utility, invoices, and supply charges, while long-term liabilities are mortgages, deferred taxes, and bank loans. 

Owner’s Equity 

As mentioned earlier, the owner’s equity is the value of assets the business owner owns. More specifically, it’s the total amount left after the assets are liquidated and liabilities are paid off. Now what causes an increase and decrease in owner’s equity? Let’s find out:

• Rise in the owner’s equity :  

There are two instances when the owner’s equity increases: revenue and additional investment by the owner. Investments are cash that owners put into their firm, which is recorded as the owner’s finances on the balance sheet. On the contrary, revenue is the total profit from sales, lending cash, commissions, renting, etc. 

• Decline in the owner’s equity : 

An owner’s equity declines with a cost and financial debit. Drawing is the money withdrawn from the business, while charges are the charges from utility charges, taxes, wage payments, tool purchases, etc. 

Extended Version of the Accounting Equation

The extended version comprises all the following elements:

• Liabilities 
• Owner’s funds
• Owner’s drawings
• Revenues 

So the formula should look like this:

Although the formulation gives a complete idea of the relationship between the main financial transaction records of a business, you can arrange and rearrange it into other forms to solve accounting equation problems.

• Owner’s equity = Net Assets – Liabilities 

While it may not make a big difference at first, the entire meaning will change if you shift the owner’s equity to the left-hand side. It suggests creditors priority over owners for meeting their demands. The equation’s main goal is to analyze the business’s investments, credit, charges, bank loan amount paid, profit, accounts payable liability, and other business activities to determine whether the business’s assets increase or decrease and find the actual financial value.  

• Net worth = Assets – Liabilities 

Net worth is synonymous with owner’s equity and follows the same equation. Other term used for owner’s equity is stockholder’s equity (used for public organizations. 

The expanded version of the accounting equation is also formulated as the following:

Assets = Liabilities + Contributed Capital + Beginning Retained Earnings + Revenue – Charges – Dividends

• Contributed Capital , also known as Paid-In Capital, is given by the first investors. 
• Beginning Retained Earnings  (BRE) is the income not given to the shareholders from the past period.
• Revenue  is the fund gained from production and sales 
• Charges  are the costs of running different business activities 
• Dividends are the profits given to the shareholders.

Check Out Fundamental Accounting Equation Problems and Solutions

The only way you can expect excellent scores in your accounting assignments is to know how to apply the basic accounting concepts when solving equation problems. Here are some fundamental accounting problems with their solutions for your perusal.

Check This Fundamental Accounting Equation Example

How to Solve a Basic Accounting Equation?

Let’s look at a few accounting equation examples with solutions to understand the calculations better. 

Find the missing factor using the accounting equation transaction formula:

Let’s look at another example to understand practical transactions.

Assume the company ABC started business services. We will evaluate their purchase, debit, and other transactions for their first month of work. 

The business owner withdraws money from their bank account and invests $10,000 in Company ABC.  This transaction will increase the cash asset and owner’s equity fund by $10,000. So the equation of the transaction will look like this:

Company ABC purchases $1,000 of appliances.  Now, there’s an increase and debit of $1,000 on assets as cash will decrease and appliances will increase. The equation of the transaction will look like the following form after the second transaction:

Company ABC purchases $1,500 of supplies on credit.  This transaction increases by $1,500. With this purchase transaction, the entry will look in the following form:

ABC receives $1,000 cash from a customer for a purchase.  Cash and revenue of the transaction are increased by the same amount of $1,000. The following transactions of the accounting equation would look like below:

• ABC’s bank account gets debited by $500 for employee salaries.  This transaction will decrease the debit amount on the cash and expenses account. Hence, the transaction form  of two accounts will look like:

Now, if you add up the debit and credit amount of the following transactions, you will find the value of one account equals to the other side of the transaction amount of $12,000, as shown below: 

Types of Accounting Problems

Accounting problems are the challenges that result in material financial statement mistakes and undetected errors due to poor internal control, incorrect application of generally accepted accounting principles (GAAP accounting standards), cybersecurity breaches, and regulatory non-compliance. Unchecked accounting issues may result in unfavorable cash flow and misstatement of business profitability. Here’s a list of common accounting challenges businesses generally encounter:

• Payroll errors
• Revenue recognition
• Missing impairment write-downs
• Lease accounting 
• Cash flow statement 
• Insufficient financial analysis
• Outdated accounting software technology 
• Fraudulent activities 
• Inadequate internal control
• Poor security measures 
• Regulatory non-compliance

Limitations of the Accounting Equation

While the accounting equation plays a significant role in determining the connection between the three elements: asset, liability, and equity, it’s not always suitable for learning about financial transactions, investments, funds, bank debts, debit, high credit, inventory purchase cost, business loan, and other business finance-related information. For instance, it doesn’t provide investors or other third parties information about accounts affected, accounts receivable funds, or details on how well the business operates. 

Additionally, there’s no guarantee of a correct answer even if you find debits equal credit transactions. Some errors may not even involve accounting equations. Financial stakeholders must evaluate the results closely to determine if the company has enough supplies and credit amount, or excess, to ensure the long-term development of a newly commenced business. To know more about the limitations of the accounting equations, credit account challenges, and effects of a bank loan, and how to balance inventory cost and funds on the sheet, you can contact an account specialist for detailed information. 

With that, we have come to the end of our guide on accounting equations. Let’s quickly recap the main points we’ve covered in the blog:

• The accounting equation is a pivotal bookkeeping tool for all businesses, regardless of size and purpose, representing the relationship between asset, liability, and owner’s equity.
• Business holdings like cash, inventory, buildings, and other similar tangible items are assets, while liabilities are business obligations like an outstanding loan account, tax bills, invoices, and other intangible items. 
• The owner’s equity represents goods belonging to the stakeholders or business owners.
• The equation can be rearranged in three different ways:
• Assets = Liabilities + Owner’s Funds – Owner’s Drawings + Revenues – Charges
• Owner’s equity = Assets – Liabilities
• Net Worth = Assets – Liabilities
• Changes in the equation are recorded through double-entry bookkeeping.
• The balance sheet of an account is a financial statement that gives a detailed explanation of the equation.
• The primary limitation of the equation is that it doesn’t provide a detailed analysis of business operations. 

Solve Your Accounting Challenges with Professional Guidance 

Seeking accounting equation assignment help is the best way to overcome the calculation complexities for personal use and gain deep knowledge of calculating a transaction accurately. MyAssignmentHelp is a reputed name in the industry for offering hand-held guidance with assignments at all study levels. 

Whether you want to hire an accounting problem solver to complete your papers or need sample papers for practice on a previous lesson, you can trust the site for comprehensive guidance and exclusive study resources. Further, the teaching team comprises Ph.D. and MPhil-qualified subject matter experts with several years of experience in offering accounting assignment help and investment and payment advice. 

Therefore, if you need financial accounting homework help , don’t hesitate to approach the experts of MyAssignmentHelp for guidance. In addition to premium academic services, you are guaranteed a bucket of perks, including free reworks, free examples of accounting equation problems and solutions, free tools, money-back assurance, data security, easy credit and debit card payment and safe transaction gateways, and industry-best prices and deals. So connect right away, and let us simplify accounting for you. 

Hi, I am Mark, a Literature writer by profession. Fueled by a lifelong passion for Literature, story, and creative expression, I went on to get a PhD in creative writing. Over all these years, my passion has helped me manage a publication of my write ups in prominent websites and e-magazines. I have also been working part-time as a writing expert for myassignmenthelp.com for 5+ years now. It’s fun to guide students on academic write ups and bag those top grades like a pro. Apart from my professional life, I am a big-time foodie and travel enthusiast in my personal life. So, when I am not working, I am probably travelling places to try regional delicacies and sharing my experiences with people through my blog. 

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Example Accounting Problems

These sample problems are intended as a supplement to my book Accounting Made Simple: Accounting Explained in 100 Pages or Less .

Chapter 1: The Accounting Equation

Question 1: Define the three components of the Accounting Equation.

Question 2: If a business owns a piece of real estate worth $250,000, and they owe $180,000 on a loan for that real estate, what is owners’ equity in the property?

Answer to Question 1:

• Assets: All the property owned by a business.
• Liabilities: A company’s outstanding debts.
• Owners’ Equity: The company’s ownership interests in its property after all debts have been repaid.

Answer to Question 2: $70,000

Chapter 2: The Balance Sheet

Question 1: Categorize the following accounts as to whether they’re Asset, Liability, of Owners’ Equity accounts.

• Common Stock
• Accounts Receivable
• Retained Earnings
• Notes Payable

Question 2: For each of the following assets or liabilities, state whether it is current or non-current:

• Accounts Payable
• Property, Plant, and Equipment
• Note Payable
• Common Stock: Owners’ Equity
• Accounts Receivable: Asset
• Retained Earnings: Owners’ Equity
• Cash: Asset
• Notes Payable: Liability

Answer to Question 2:

• Accounts Payable: current liability
• Cash: current asset
• Property, Plant, and Equipment: non-current asset
• Note Payable: non-current liability (Though if a portion of the note is due within the next twelve months, that portion should be shown as a current liability.)
• Inventory: current asset

Chapter 3: The Income Statement

Question 1: Given the following information, calculate ABC Corp’s Net Income:

• Sales: $260,000
• Cost of Goods Sold: $100,000
• Salaries and Wages: $20,000
• Rent Expense: $15,000
• Advertising Expense: $35,000
• Cost of repairs resulting from fire: $50,000

Question 2: Using the above information, calculate ABC Corp’s Operating Income.

Question 3: Using the above information, calculate ABC Corp’s Gross Profit.

Answer to Question 1: $40,000 (Sales of $260,000 minus $220,000 of total expenses.)

Answer to Question 2: $90,000 (Operating Income is intended to represent income from typical business operations.  As a result, expenses resulting from a fire would certainly not be included when calculating Operating Income.)

Answer to Question 3: $160,000 (Sales minus Cost of Goods Sold)

Chapter 4: The Statement of Retained Earnings

Question 1: Using the following information, calculate the ending balance in Retained Earnings:

• Beginning Retained Earnings: $10,000
• Net Income: $5,000
• Dividends Paid: $4,000

Question 2: Calculate Net Income given the following information:

• Consulting Revenue: $50,000
• Rent Expense: $5,000
• Software Licensing Fees: $3,000
• Dividends Paid: $6,000
• Advertising Expense:$20,000

Question 3: Using the following information, calculate how much was paid out in dividends during the year:

• Beginning Retained Earnings: $40,000
• Net Income: $15,000
• Ending Retained Earnings: $30,000

Answer to Question 1: $11,000

Answer to Question 2: $22,000 (Remember, dividends are not an expense! They are a distribution of net income rather than a reduction of net income.)

Answer to Question 3: $25,000

Chapter 5: The Cash Flow Statement

Question 1: Calculate cash flow from operating activities using the following information:

• Cash sales: $10,000
• Credit sales: $15,000
• Cash received from prior credit sales: $8,000
• Rent paid: $3,000
• Inventory purchased: $6,000
• Wages paid:$5,000

Question 2: Categorize the following cash flows as to whether they are operating, investing, or financing activities:

• Dividends paid to shareholders
• Interest paid on loans
• Dividends received on investments
• Purchase of new office furniture

Answer to Question 1: Net cash inflow of $4,000. (Remember not to include the $15,000 of credit sales when calculating cash flow.)

• Taxes paid: Operating Activities
• Dividends paid to shareholders: Financing Activities
• Interest paid on loans: Operating Activities (Note: Principal paid on loans is a financing activity.)
• Dividends received on investments: Operating Activities
• Cash sales: Operating Activities
• Purchase of new office furniture: Investing Activities

Chapter 6: Financial Ratios

Questions 1-3: Use the following income statement and balance sheet to answer the following questions.

Question 1: Calculate the company’s current ratio and quick ratio.

Question 2: Calculate the company’s return on assets and return on equity.

Question 3: Calculate the company’s debt ratio and debt to equity ratio.

Answer to Question 1: Current ratio = 1.5 (30,000 current assets ÷ 20,000 current liabilities). Quick ratio = 0.75 (15,000 non-inventory current assets ÷ 20,000 current liabilities).

Answer to Question 2: Return on assets = 21.4% (60,000 net income ÷ 280,000 total assets). Return on equity = 27.3% (60,000 net income ÷ 220,000 shareholders’ equity)

Answer to Question 3: Debt ratio = 21.4% (60,000 liabilities ÷ 280,000 assets). Debt to equity ratio = 27.3% (60,000 liabilities ÷ 220,000 shareholders’ equity).

Chapter 7: What is GAAP?

Question 1: Who is required to follow GAAP?

Question 2: Who creates the rules for GAAP?

Question 3: What is the purpose of Generally Accepted Accounting Principles (GAAP)?

Answer to Question 1: Publicly-traded companies. (Governmental entities are required to follow GAAP as well, but the rules that make up GAAP for governmental entities are significantly different from the rules for publicly-traded companies.)

Answer to Question 2: The Financial Accounting Standards Board (FASB)

Answer to Question 3: To purpose of GAAP is to ensure that companies’ financial statements are prepared using a similar set of rules and assumptions. This helps to enable meaningful comparisons between the financial statements of multiple companies.

Chapter 8: Debits and Credits

Questions 1-3: Show how the following transactions would affect the Accounting Equation

Question 1: James purchases a $5,000 piece of equipment.

Question 2: James writes his monthly check for rent: $3,000.

Question 3: James takes out a $25,000 loan with his bank.

Questions 4-6: Create journal entries to record the following transactions

Question 4: James purchases a $5,000 piece of equipment.

Question 5: James writes his monthly check for rent: $3,000.

Question 6: James takes out a $25,000 loan with his bank.

Answer to Question 3:

Answer to Question 4:

Answer to Question 5:

Answer to Question 6:

Chapter 9: Cash vs. Accrual

Questions 1-5: Prepare journal entries to record each of the following events.

Question 1: Tom’s Tax Prep’s monthly rent is $3,500. At the end of February, they had not yet received their monthly rent invoice.

Question 2: In early March, Tom’s Tax Prep receives and pays their rent bill for February.

Question 3: Marla, a marketing consultant, performs services for a client. The agree-upon price was $10,000, due 30 days from the date the services were completed.

Question 4: ABC Hardware makes a sale (on credit) for $2,500 worth of lumber. The lumber originally cost them $1,300.

Question 5: Julie takes out a $10,000 loan for her business. Repayment is due in one year along with $1,200 interest.

When the loan is taken out:

At the end of each month during the year:

When the loan is repaid:

Chapter 10: The Accounting Close Process

Prepare closing journal entries for Mario’s Mobile Products, which has the following end-of-year trial balance:

Alternatively, the above can be combined into one journal entry:

In either case, the following closing journal entry is also required in order to close out the Income Summary account and transfer the balance — representing the business’s net income for the period — into Retained Earnings:

Chapter 11: Other GAAP Concepts and Assumptions

Question 1: Andy runs a real estate development firm. Five years ago, he purchased a piece of land for $250,000. This year, an appraiser tells Andy that the land is worth $300,000. At what value should Andy report the land on his balance sheet? Why?

Question 2: Andy is the sole owner of his firm. In June, he moves $30,000 from his business checking account to his personal checking account. If Andy wants his financial records to be in accordance with GAAP, should he record the transaction or not? Why?

Answer to Question 1: Andy should report the land at its original cost: $250,000. Under GAAP’s “Historical Cost” assumption, assets are reported at their historical cost rather than at their current market value. This is done in order to remove subjective asset valuations from the reporting process.

Answer to Question 2: Yes, in order to be in compliance with GAAP, Andy must record the transaction. GAAP’s “Entity Assumption” considers businesses to be separate entities from their owners. As such, transactions between a business and its owners must be recorded as if they were between the business and an entirely separate party.

Chapter 12: Depreciation of Fixed Assets

Questions 1-6: Prepare journal entries to record each of the following events:

Question 1: Liliana spends $20,000 (cash) on a piece of equipment for use in her restaurant. She plans to use the straight-line method to depreciate the equipment over 5 years. She expects it to have no value at the end of the 5 years.

Question 2: After 4 years,  Liliana sells the equipment for $4,000.

Question 3: Same as question 2, except she sells the equipment for $6,000.

Question 4: Same as question 2, except she sells the equipment for $2,000.

Question 5: Oscar is a self-employed electrician. He purchases a piece of equipment for $30,000 cash. He plans to use it for 10 years, at which point he plans to sell it for approximately $4,000.He elects to use the straight-line method of depreciation.

Question 6: Sandra runs a business making embroidered linens for wedding receptions. She purchases a new piece of equipment for $15,000 in credit. She plans to use the units of production method of depreciation. The equipment is expected to produce approximately 5,000 linens, at which point it will be valueless. During the first year after buying the equipment, Sandra uses it to produce 1,500 linens.

To record the purchase:

To record depreciation every year:

(Depreciable value is $26,000. If depreciated over 10 years, that’s $2,600 depreciation per year.)

When the purchase is eventually paid for:

To record depreciation for the first year:

($15,000 depreciable value ÷ 5,000 units = $3 of depreciation per unit. 1,500 units produce x $3 per unit = $4,500 depreciation expense.)

Chapter 13: Amortization of Intangible Assets

Questions 1-2: Prepare journal entries to record each of the following events.

Question 1: Trent runs a business as an engineering consultant. He invents a new system for preparing bridges to deal with extreme weather conditions. He spends $28,000 securing a 14-year patent for his invention. He expects the system to be used for the next few decades at least.

Question 2: Tina runs a business creating medical supplies for surgeries. Her team develops a new tool for assisting in heart surgery. She spends $42,000 on getting it patented. She receives a 14-year patent, but she only expects the technology to be used for about 7 years before a newer technology comes along to replace it.

To record receiving the patent:

To record amortization expense each year:

Chapter 14: Inventory and Cost of Goods Sold

Question 1: Using the following information, calculate Cost of Goods Sold:

• Beginning Inventory: $3,000
• Ending Inventory: $4,500
• Purchases: $6,000

Question 2-4: Use the following information to answer questions 2-4.

• Beginning Inventory: 1,000 units at $4/unit.
• Purchases: 600 units at $5/unit.
• Ending Inventory: 900 units.

Question 2: Calculate Cost of Goods Sold using First-In-First-Out (FIFO)

Question 3: Calculate Cost of Goods Sold using Last-In-First-Out (LIFO)

Question 4: Calculate Cost of Goods Sold using the Average Cost Method

Answer to Question 1: CoGS = $4,500

Answer to Question 2: CoGS = $2,800

Explanation:

The first thing to calculate is how many units were sold. In this case, 700 units must have been sold. Now we just have to figure out the cost for each unit of sold inventory.

Using FIFO, we assume that the first units purchased were the first units sold. Therefore, all 700 sold units must have been from the older ($4 per unit) inventory. 700 units x $4 per unit = $2,800

Answer to Question 3: CoGS =$3,400

Again, we know that 700 units were sold. Under LIFO, we assume that the most recently purchased units are sold first. Therefore, all 600 of the $5 units must have been sold. The remaining 100 sold units must have been from the older ($4/unit) inventory.

(600 units x $5 per unit) + (100 units x $4 per unit) = $3,400

Answer to Question 4: CoGS =$3,062.50

Using the Average Cost Method, we have to calculate the average cost per unit of inventory. We know that there were a total of 1,600 units available for sale and that–in total–they cost $7,000. That gives us an average cost per unit of $4.38 (or $4.375 to be precise).

To calculate CoGS, we multiply this average cost per unit by the number of units sold. 700 units x $4.375 per unit = $3,062.50

To Learn More, Check Out the Book:

• How to read and prepare financial statements
• Preparing journal entries with debits and credits
• Cash method vs. accrual method
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• TS Grewal Solutions
• Class 11 Accountancy
• Chapter 2 - Accounting Equation

TS Grewal Solutions Class 11 Accountancy Chapter 2 - Accounting Equation

Ts grewal solutions for class 11 accountancy chapter 2:.

TS Grewal Solutions for Class 11 Accountancy Chapter 2- Accounting Equation is a fundamental concept to be studied by the students. Here, we have provided in a simplistic and a step by step method, which is useful for the students to score well in the board exams.

Class 11 TS Grewal Solutions Accountancy Chapter 2:- Download PDF Here

Chapter 1- Accounting Equation defines the below-mentioned concepts:

• Balance Sheet and Income Statement
• Balance in Accounting:
• Fundamental Accounting Equation
• Accounting equation in an Income Statement
• Double-entry bookkeeping system

Ts Grewal Solutions for Class 11 Accountancy Chapter 2- Accounting Equation

Q.1 What will be effect of the following on the Accounting Equation? (i) Started business with cash ₹ 45,000 (ii) Opened a Bank Account with a deposit of ₹ 4,500 (iii) Bought goods from M\s. Sun & Co. for ₹ 11,200

The solution for this question is as follows:

Liabilities = 11,200

Capital = 45,000

Assets = Liabilities + Capital

= 45,000 + 11,200 = 56,200

Q.2 Show the Accounting Equation for the following transactions:

Liabilities = 10,000

Capital = 19,700

Assets = 10,000 + 19,700 = 29,700

Q.3 Show the effect of the following transactions on the Accounting Equation: (i) Started business with cash ₹ 50,000. (ii) Salaries paid ₹ 2,000. (iii) Wages Outstanding ₹ 200. (iv) Interest due but not paid ₹ 100. (v) Rent paid in advance ₹ 150.

Q.4 What will be the effect of the following on the Accounting Equation?

(i) Harish started business with cash ₹ 18,000

(ii) Purchased goods for Cash ₹ 5,000 and on credit ₹ 2,000

(iii) Sold goods for cash ₹ 4,000 (costing ₹ 2,400)

(iv) Rent paid ₹ 1,000 and rent outstanding ₹ 200

Q.5 Prepare Accounting Equation from the following:

(i) Started business with cash ₹ 1,00,000 and Goods ₹ 20,000.

(ii) Sold goods worth ₹ 10,000 for cash ₹ 12,000.

(iii) Purchased furniture on credit for ₹ 30,000.

Q.6 Prepare an Accounting Equation and Balance Sheet on the following basis:

(i) Ajeet started business with cash ₹ 20,000.

(ii) He purchased furniture for ₹ 2,000.

(iii) He paid rent of ₹ 200.

(iv) He purchases goods on credit ₹ 3,000.

(v) He sold goods (cost price ₹ 2,000) for ₹ 5,000 on cash.

The balance sheet is prepared as follows

Q.7 Prepare an Accounting Equation from the following:

(i) Started business with cash ₹ 1,00,000.

(ii) Purchased goods for cash ₹ 20,000 and on credit ₹ 30,000.

(iii) Sold goods for cash costing ₹ 10,000 and on credit costing ₹ 15,000 both at a profit of 20%.

Q.8 Develop an Accounting Equation from the following transactions:

Q.9 Prepare an Accounting Equation on the basis of the following transactions:

(i) Started business with cash ₹ 70,000.

(ii) Credit purchase of goods ₹ 18,000.

(iii) Payment made to creditors in full settlement ₹ 17,500.

(iv) Purchase of machinery for cash ₹ 20,000.

(v) Depreciation on machinery ₹ 2,000.

Q.10 Prove that the Accounting Equation is satisfied in all the following transactions of Suresh. Also prepare a Balance Sheet.

(i) Commenced business with cash ₹ 60,000.

(ii) Paid rent in advance ₹ 500.

(iii) Purchased goods for cash ₹ 30,000 and credit ₹ 20,000.

(iv) Sold goods for cash ₹ 30,000 costing ₹ 20,000.

(v) Paid salary ₹ 500 and salary outstanding being ₹ 100.

(vi) Bought motorcycle for personal use ₹ 5,000.

Liabilities = 20,000 + 100 = 20,100

Capital = 64,400

Assets = 64,400 + 20,100 = 84,500

Balance sheet is prepared as follows

Q.11 Show the effect of the following transactions and also prepare a Balance Sheet:

(i) Started business with cash ₹ 60,000.

(ii) Rent received ₹ 2,000.

(iii) Accrued interest ₹ 500.

(iv) Commission received in advance ₹ 1,000.

(v) Amount withdrawn ₹ 5,000.

Q.12 Prove that the Accounting Equation is satisfied in all the following transactions of Sameer Goel:

(i) Started business with cash ₹ 10,000.

(ii) Paid rent in advance ₹ 300.

(iii) Purchased goods for cash ₹ 5,000 and credit ₹ 2,000.

(iv) Sold goods for cash ₹ 8,000 costing ₹ 4,000.

(v) Paid salary ₹ 450 and salary outstanding being ₹ 100.

(vi) Bought motorcycle for personal use ₹ 3,000.

Liabilities = 2000 + 100 = 2100

Capital = 10,450

Assets = 10,450 + 2100 = 12,550

Q.13 Show the Accounting Equation on the basis of the following transactions and present a Balance Sheet on the last new equation balance:

Q.14 Raghunath had the following transactions in an accounting year:

(i) Commenced business with cash ₹ 50,000.

(ii) Paid into bank ₹ 10,000.

(iii) Purchased goods for cash ₹ 20,000 and credit ₹ 30,000.

(iv) Sold goods for cash ₹ 40,000 costing ₹ 30,000.

(v) Rent paid ₹ 500.

(vi) Rent outstanding ₹ 100.

(vii) Bought furniture ₹ 5,000 on credit.

(viii) Bought refrigerator for personal use ₹ 5,000.

(ix) Purchased motorcycle for cash ₹ 20,000.

Create an Accounting Equation to show the effect of the above and also show his Balance Sheet.

Q.15 Prepare an Accounting Equation from the following:

(i) Started business with cash ₹ 50,000 and goods ₹ 30,000.

(ii) Purchased goods for cash ₹ 30,000 and on credit from Karan ₹ 20,000.

(iii) Goods costing ₹ 40,000 were sold for ₹ 55,000.

(iv) Withdrew cash for personal use ₹ 10,000.

(v) Rent outstanding ₹ 2,000.

Q.16 Show an Accounting Equation for the following transactions:

(i) D. Mahapatra commenced business with cash ₹ 50,000 and ₹ 1,00,000 by cheque; goods ₹ 60,000; machinery ₹ 1,00,000 and furniture ₹ 50,000.

(ii) 1/3rd of above goods sold at a profit of 10% on cost and half of the payment is received in cash.

(iii) Depreciation on machinery provided @ 10%.

(iv) Cash withdrawn for personal use ₹ 10,000.

(v) Interest on drawings charged @ 5%.

(vi) Goods Sold to Gupta for ₹ 10,000 and received a Bill Receivable for the same amount for 3 months.

(vii) Received ₹ 10,000 from Gupta against the Bills Receivable on its maturity.

Q.17 Prepare Accounting Equation from the following:

(a) Started business with cash ₹ 1,00,000.

(b) Purchased goods for cash ₹ 20,000 and on credit ₹ 30,000.

(c) Sold goods for cash costing ₹ 10,000 and on credit costing ₹ 15,000 both at a profit of 20%.

(d) Paid salaries ₹ 8,000.

Q.18 Show the accounting equation on the basis of following transactions:

(a) Ram started business with ₹ 25,000.

(b) Purchased goods from Shyam ₹ 10,000.

(c) Sold goods to Sohan costing ₹ 1,500 for ₹ 1,800.

Q.19 If the capital of a business is ₹ 3,00,000 and liabilities are ₹ 50,000, loss ₹ 70,000, calculate the total assets of the business.

Q.20 If total assets of a business are ₹ 1,30,000 and net worth is ₹ 80,000, calculate the creditors.

Q.21 A commenced his cloth business on 1st April, 2018 with a capital of ₹ 30,000. On 31st March 2019, his assets were worth ₹ 50,000 and liabilities of ₹ 10,000. Find out his closing capital and profits earned during the year.

Here Capital = 30,000

Assets = 50,000

Q.22 If capital of a business is ₹ 1,40,000 and liabilities are of ₹ 80,000, calculate the total assets of the business.

Here Capital = 1,40,000

Liabilities = 80,000

Q.23 Calculate the total assets if:

(i) Capital is ₹ 40,000.

(ii) Creditors are ₹ 25,000.

(iii) Revenue during the period is ₹ 50,000.

(iv) Expenses during the period are ₹ 40,000.

Here Capital = 40,000

Creditors = 25,000

Revenue = 50,000

Expenses = 40,000

Q.24 (a) A had a capital of ₹ 75,000 on 1st April, 2018. He had also goods amounting to ₹ 15,000 which he had purchased on credit and the payment had not been made. Find out the value of the total assets of the business.

(b) After a period of one month, he came to know that he had suffered a loss of ₹ 1,700. He withdrew ₹ 800 for his personal use. Find out his capital and assets of the business.

Q.25 (a) Mohan started a business on 1st April, 2018 with a capital of ₹ 10,000 and borrowed ₹ 3,000 from a friend. He earned a profit of ₹ 5,000 during the year ended 31st March, 2019 and withdrew cash ₹ 4,000 for personal use. What is his capital on 31st March, 2019?

(b) Mahesh started a business with a capital of ₹ 15,000 on 1st April, 2018. During the year, he made a profit of ₹ 3,000. He owes ₹ 2,500 to suppliers of goods. What is the total of assets in his business on 31st March, 2019?

Q.26 Mohan started a business on 1st April, 2018 with a capital of ₹ 25,000 and a loan of ₹ 12,500 borrowed from Shyam. During 2018-19 he had introduced additional capital of ₹ 12,500 and had withdrawn ₹ 7,500 for personal use. On 31st March, 2019 his assets were ₹ 75,000. Find out his capital as on 31st March, 2019 and profit made or loss incurred during the year 2018-19.

Q.27 On 31st March, 2019, the total assets and external liabilities were ₹ 2,00,000 and ₹ 6,000 respectively. During the year, the proprietor had introduced capital of ₹ 20,000 and withdrawn ₹ 12,000 for personal use. He made a profit of ₹ 20,000 during the year. Calculate the capital as on 1st April, 2018.

Q.28 Show an Accounting Equation on the basis of the following transactions:

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Google Circle to Search can now solve maths problems for students: Here's how the feature works

Google's circle to search focuses on educational support by aiding students in understanding problem-solving techniques, with plans to expand to more complex equations using ai model learnlm..

Tech giant Google has unveiled a significant update to its Circle to Search feature during the annual developer conference, Google I/O. This enhancement aims to empower students by providing assistance with math and physics problems directly from their Android smartphones or tablets.

The revamped Circle to Search now offers a specialized tool tailored to guide students through solving homework problems in mathematics and physics. Unlike merely providing answers, Google emphasizes that the feature is designed to foster a deeper understanding of problem-solving techniques, aiding students in learning how to tackle challenges independently.

Through Circle to Search, students can activate AI-driven assistance for mathematical word problems, which systematically breaks down the problem and provides step-by-step instructions for finding the correct solution. Google underscores that the feature is intended as a supportive educational tool, rather than a shortcut for completing assignments.

This announcement comes amidst ongoing discussions surrounding the integration of AI tools in education, with concerns raised about potential misuse by students seeking to expedite their homework. Google addresses these concerns by positioning Circle to Search as a resource focused on facilitating learning and skill development.

Looking ahead, Google revealed plans to further expand the capabilities of Circle to Search. Soon, the functionality will be upgraded to tackle more intricate mathematical equations, encompassing symbolic formulas, diagrams, and graphs, suggests the American company.

Google will utilize LearnLM , its most recent AI model optimized explicitly for educational tasks, to drive these advanced capabilities.

In a blog post announcing the update, Google stated, "Starting today, Circle to Search can now help students with homework, giving them a deeper understanding, not just an answer — directly from their phones and tablets. When students circle a prompt they’re stuck on, they’ll get step-by-step instructions to solve a range of physics and math word problems without leaving their digital info sheet or syllabus. Later this year, Circle to Search will be able to help solve even more complex problems involving symbolic formulas, diagrams, graphs, and more. This is all possible due to our LearnLM effort to enhance our models and products for learning."

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