Contractor Accounting: The Accounting Equation
Thursday, September 20, 2007
This is an ongoing series called "Contractor Accouting 101": Accounting is the process of taking into account all your business transactions, along with what you owe and who owes you. It's an evaluation of your company resources. Nearly every business has assets and the best way to determine who has a claim to those assets is to use the Accounting Equation. The equation is stated like this: Assets = Liabilities + Owner Equity
Assets can be a company truck, a showroom, tools, products, telephones or computers. These items are considered valuable resources. On the other side of the equation are Liabilities and Owner Equity. Any money that your business owes is a liability. And anything left over, after Liabilities are subtracted from Assets, is the Owner Equity.But, the Owner Equity has increased by $50 ($100 (Assets) = $50 (Liabilities) + $50 (Owner Equity)).Every transaction you have affects this equation. Say your business has $20,000 in the bank. You owe $5,000 for supplies. That would mean that your Owner Equity in the company is $15,000. ($20,000 = $5,000 + $15,00). And if you were to take $2,000 from the cash Asset to pay down the debt, your new Accounting Equation will look like this: $18,000 (Asset) = $3,000 (Liability) + $15,000 (Owner Equity).
You no longer have as much cash, but you also do not owe as much for your supplies. The same can be true if you add Assets to your company.
Say you have $20,000 in Cash. You owe $5,000. Which means you have $15,000 in Owner Equity. You then add $4,000 worth of tools. You used credit to make your purchase. Your new Accounting Equation looks like this:
$24,000 ($20,000 Cash + $4,000 Tools) = $9,000 + $15,000
Or
$24,000 (Assets) = $9,000 (Liabilities) + $15,000 (Owner Equity)
The Accounting Equation is a crucial part of your company balance sheet and profit and loss reports.
Next Topic - Accounts
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Labels: Accounting
