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
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:
Now let's take a look at how each transaction affects the accounting equation:
Transaction | Assets | = | Liabilities | + | Capital |
---|---|---|---|---|---|
1. Owner's investment | 20,000.00 | = | + | 20,000.00 | |
2. Loan from bank | 30,000.00 | = | 30,000.00 | + | |
3. Purchased printers | 1,000.00 (1,000.00) |
= | + | ||
4. Service revenue for cash | 500.00 | = | + | 500.00 | |
5. Service revenue on account | 750.00 | = | + | 750.00 | |
6. Supplies on account | 200.00 | = | 200.00 | + | |
7. Repair of equipment | = | 400.00 | + | (400.00) | |
8. Owner's withdrawal | (5,000.00) | = | + | (5,000.00) | |
9. Payment of loan | (10,000.00) | = | (10,000.00) | + | |
10. Collection of accounts | 750.00 (750.00) |
= | + | ||
Balance | 36,450.00 | = | 20,600.00 | + | 15,850.00 |
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.
The basic accounting equation is:
Assets = Liabilities + Capital
Because of the two-fold effect of business transactions, the equation always stays in balance.