Accounting Equation — Flashcards

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The fundamental accounting equation is Assets = Liabilities + Capital. It shows that everything a business owns is financed either by the owner or by outsiders.

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It shows the equality between assets on one side and the claims of outsiders and owners on the other side. It is the basis for recording transactions and for preparing the balance sheet.

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It means the business has no independent assets or liabilities of its own. All assets belong to the business because of the owner's capital or outsiders' funds.

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Assets are the resources owned by the business. Cash, stock, debtors, and machinery are examples of assets.

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Liabilities are amounts owed by the business to outsiders. Creditors, loan, bank overdraft, and bills payable are examples of liabilities.

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Capital is the owner's investment in the business. It is the owner's claim on the assets of the business after all liabilities are paid.

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Capital increases. The increase is credited. The business also gets an equal increase in assets, usually cash.

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Drawings reduce capital. When the owner takes money or goods for personal use, the capital decreases by the same amount.