Accounting Equation


DEFINITION of 'Accounting Equation'

The equation that is the foundation of double entry accounting. The accounting equation displays that all assets are either financed by borrowing money or paying with the money of the company's shareholders. Thus, the accounting equation is: Assets = Liabilities + Shareholder Equity. The balance sheet is a complex display of this equation, showing that the total assets of a company are equal to the total of liabilities and shareholder equity. Any purchase or sale by an accounting equity has an equal effect on both sides of the equation, or offsetting effects on the same side of the equation. The accounting equation is also written as Liabilities = Assets – Shareholder Equity and Shareholder Equity = Assets – Liabilities.


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BREAKING DOWN 'Accounting Equation'

The basic equation shows that a company can fund the purchase of an asset with assets (a $50 purchase of equipment using $50 of cash) or fund it with liabilities or shareholder equity (a $50 purchase of equipment by borrowing $50 or using $50 of retained earnings). In the same vein, liabilities can be paid down with assets, like cash, or by taking on more liabilities, like debt.

  1. Balance Sheet

    A financial statement that summarizes a company's assets, liabilities ...
  2. Accounting

    The systematic and comprehensive recording of financial transactions ...
  3. Asset

    1. A resource with economic value that an individual, corporation ...
  4. Shareholders' Equity

    A firm's total assets minus its total liabilities. Equivalently, ...
  5. Retained Earnings

    Retained earnings is the percentage of net earnings not paid ...
  6. Liability

    A company's legal debts or obligations that arise during the ...
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  1. Why does accumulated depreciation have a credit balance on the balance sheet?

    Accumulated depreciation is increased with a credit entry, although it is shown on the asset side of the balance sheet. Following ... Read Full Answer >>
  2. Does the balance sheet always balance?

    Yes, a balance sheet should always balance. The name "balance sheet" is based on the fact that assets will equal liabilities ... Read Full Answer >>
  3. Can working capital be depreciated?

    Working capital as current assets cannot be depreciated the way long-term, fixed assets are. In accounting, depreciation ... Read Full Answer >>
  4. Do working capital funds expire?

    While working capital funds do not expire, the working capital figure does change over time. This is because it is calculated ... Read Full Answer >>
  5. How much working capital does a small business need?

    The amount of working capital a small business needs to run smoothly depends largely on the type of business, its operating ... Read Full Answer >>
  6. What does high working capital say about a company's financial prospects?

    If a company has high working capital, it has more than enough liquid funds to meet its short-term obligations. Working capital, ... Read Full Answer >>

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