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August 7, 2006

What is the accounting equation?

The accounting equation is Assets = Liabilities + Owner’s Equity. This is the same format used in a sole proprietorship’s balance sheet. (A corporation’s balance sheet will use Stockholders’ Equity instead of Owner’s Equity.)

The accounting equation will always remain in balance if double-entry accounting is followed accurately. For example, if a company borrows $10,000 from its bank, Assets increase by $10,000 and Liabilities increase by $10,000. When a company buys inventory with cash, one Asset (Inventory) increases and one Asset (Cash) decreases. If the owner invests $5,000 of personal assets in the business, the company’s Assets increase and Owner’s Equity increases. If the owner withdraws $2,000 from the business for her personal use, the company’s Assets decrease and Owner’s Equity decreases.

Revenues causes Owner’s Equity to increase, and expenses cause Owner’s Equity to decrease. If the company earns $1,500 in service fees, the company’s Assets (Cash or Accounts Receivable) will increase and Owner’s Equity will increase. When the company incurs electricity charges, the company’s Liabilities increase and Owner’s Equity decreases. If the company pays for ads to appear in this week’s newspaper, Assets decrease and Owner’s Equity decreases.

Bookkeepers and accountants will be entering amounts into two or more accounts for every transaction. This occurs with business accounting software as well, but the software might be doing part of the entries behind the scenes.

Learn more about the Accounting Equation.

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Comments

15 Responses to “What is the accounting equation?”

  1. Papakonstantinou Pavlos on February 12th, 2007 3:11 am

    I find an invoice on my desk. Which steps should i do to check such invoice and proceed to payment?

  2. steve on June 14th, 2007 8:13 am

    Theres too much bold in that post, it makes it really hard to read

  3. kamanzi on August 8th, 2007 8:35 am

    explain to me fully the accountin principles

  4. porus on August 24th, 2007 3:13 am

    which is the financial statement that has a heading in which the date or period is NOT specified?

  5. Ramin on January 23rd, 2008 7:32 am

    Make me clear about accounting Equaitons; Please.

  6. Matthew on March 22nd, 2008 5:30 pm

    I wrote the following to help myself better understand the accounting equation.

    Assets - Assets are the resources supplied by both the owner(s) AND other people/businesses.

    Capital/Equity - Capital or equity is the resources supplied only by the owner(s)

    Liabilities - Liabilities refer to the resources supplied by entities other than the owner(s)

    In its most simple format, the accounting equation is as follows:

    Resources supplied by the owner = Actual resources in business - Resources supplied by others
    (Capital/Equity) = (Assets) - (Liabilities)

    From this explanation, we can better understand the variants of the accounting equation:

    Capital = Assets - Liabilities

    Liabilities = Assets - capital

    Assets = Capital + Liabilities

    I hope it helps.

  7. SELLO on March 24th, 2008 11:52 am

    CAN YOU PLS GIVE ME EXAMPLES OF ASSETS,EQUITY AND LIABILITIES

  8. elizabeth on April 17th, 2008 10:56 pm

    describe how accounting transactions affect the items in the accounting equation

  9. pasha ali on January 11th, 2009 10:54 am

    assets=liabilities-owner equity

  10. michael on May 2nd, 2009 5:52 am

    Kindly explain to me the nature of the accounting equation.

    Wit regards.

  11. ACoach on May 2nd, 2009 7:38 am

    See our explanation of the accounting equation (including how it changes but stays in balance) at:
    http://www.accountingcoach.com/online-accounting-course/14Xpg01.html

  12. Oge on June 15th, 2009 1:47 pm

    compliments

  13. Deep Sharma8430 on August 5th, 2009 11:18 am

    Assets = Liabilities + owner Equity n also + Revenues - expences =gains - losses +contributions-withdrawals
    (It is a write formula of accounting)

  14. Phidel on September 3rd, 2009 7:46 am

    Pls can i get the pratical asspect of accounting equation.

    thanks.

  15. ACoach on September 3rd, 2009 11:29 am

    See the free Explanation of Accounting Equation on AccountingCoach.com.

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